Fear Factor
We all worry about money. Problem is, we're scared of the wrong things.
By David Futrelle

(MONEY Magazine) – The world sure looks scary. The television bombards you with images of crime, disaster and mishap that have you fretting about your own demise. Tune in to the business news and Lou Dobbs is warning that a guy in India wants your job. Open up the Wall Street Journal and every third story suggests that the value of your home is headed for the basement. Flip the page in disgust and there's the ad for identity theft insurance--because not even your name is safe. It's enough to make you FREAK OUT!

And for no good reason. The way we perceive danger is driven far more by rapid, emotional responses than by any reasoned calculation, or miscalculation, of actual risk. Neuroscientists and psychologists in recent years have come to understand that, basically, we're wired to act now, think later. Sure, unreasoning terror came in handy when that shadow at the cave entrance might have belonged to a saber-toothed tiger. In a more complex world, though, an emotion-driven assessment of risk can lead us astray. We worry more about our unlikely ingestion of mad cow than we do about that common killer known as the double cheeseburger. We figure we're safer when we have control, yet driving a car is roughly 65 times more dangerous than being flown in an airliner. As David Ropeik and George Gray of the Harvard Center for Risk Analysis point out, what feels safe can be quite dangerous, and vice versa.

Those feelings can wreak havoc with our decisions about money. Consider how we react to the stock market's gyrations. When stocks are going up, we feel warm and fuzzy about them, so we tend to view their risk as low. (Psychologists call this "affect bias.") But when stocks turn down, we err in the opposite direction. We sell, and we stay out until the market has rebounded and stocks are "good" again. So much for buy low, sell high. "Our brains are wired to think that either we're safe or we're in danger," says Cass Sunstein, a University of Chicago Law School professor and an expert on risk. "Going around calculating odds all the time just isn't something we're built to do."

We are, however, built to learn to outwit our impulses. And the more you understand why you err in evaluating risk, the fewer bad decisions you'll end up making. Drawing from today's scariest headlines and an exclusive MONEY/ICR poll that asked 1,000 Americans about their financial fears, this article explains why your biggest money worries might be misplaced and, more important, gives you an action plan that addresses the unfortunate events that should really concern you. So read on, then rest easier.

FEAR No. 1 You Die Young

REAL DANGER You're disabled and can't work

There are few things quite so dreadful as the prospect of our own impending demise. As Woody Allen put it, "I don't want to achieve immortality through my work. I want to achieve it through not dying." Alas, that's impossible, so it's not surprising that three-quarters of those surveyed by MONEY/ICR said that they worried about protecting their family in the event of their death. Roughly half of us are worried enough to buy life insurance.

Yet we're far less likely to protect against the far more likely possibility that we'll be sidelined for an extended time by injury or illness. More than twice as many of us will be disabled during our career as will die before we retire. Yet only 28% of working Americans have any kind of long-term-disability insurance.

This neglect can cost you and your family--big-time. Half of those declaring bankruptcy do so because of health problems or medical bills, according to research by Harvard law professor Elizabeth Warren. Even scarier: Three-quarters of those bankrupted by medical bills actually had health insurance. It just wasn't enough, especially for those whose illness cost them their job.


» Make sure you have adequate insurance in case life puts you on the disabled list. Don't assume that Social Security disability payments and any base package your employer offers will suffice, especially if you make more than $100,000. Ideally, you'll want:

• A payout of 60% of your gross compensation, and coverage that lasts until age 65 or 67.

• "Own occupation" coverage, which pays out if you can't do your current job. "Any occupation" coverage pays out only if you're unable to work at all.

• A 60- to 90-day waiting period before benefits begin. This will lower your premiums.

» If your employer offers a supplemental plan at group rates, buy it. Individual policies aren't cheap. A 40-year-old male office worker buying a $5,000-a-month policy would pay about $245 a month for coverage to age 67 with rates that never go up. (Five years of coverage would start at about $95 a month.) Women pay a bit more, because they tend to live longer after becoming disabled than men do.


Chance an American worker will die before 65 13% NOTE: Workers 35 to 65. SOURCE: Society of Actuaries.


Chance a worker will be disabled for an extended time before 65 28% NOTE: Workers 35 to 65. SOURCE: Society of Actuaries


Get disability coverage. Sign up for all that your employer offers before shopping for an individual policy.

FEAR No. 2 The Stock Market Crashes

REAL DANGER Decades of mediocre returns

Nearly half of those surveyed in the MONEY/ICR poll said they were worried about the possibility of a market crash. And according to Vanguard's Center for Investment Research, investors think that there's a 51% chance that U.S. stocks will lose a third of their value in any given year. Based on historical returns, Vanguard calculates that the real probability of that happening is about 2%.

Why this stunning mismatch between perception and reality? Because memories of the Nasdaq's 2000 crash are so vivid and painful that they color the way we look at current risks. That's what risk experts call "availability bias." Add to that the alarmist bias mentioned earlier. If stocks can fall 10%, we think, why not 30% or 60% or 100%?

The good news is that the odds of such a calamity are extremely low. The bad news is that there's a bigger threat to your long-term goals lurking in the market. What is it? Mediocre returns that last for decades. Why? Mainly because the fat stock returns so many of us got used to in the '80s and '90s reflected a giant markup in the price of stocks, as baby boomers got over their fear of them and started moving serious money into the markets. In 1982, stocks were collectively priced at eight times their annual earnings; by 2000 they were at 33 times earnings. (The P/E ratio stands today at about 22.) But unless whole new demographic groups, like Asia's burgeoning middle class, suddenly start putting a lot of money into U.S. stocks, the once-in-a-lifetime rise in what people are willing to pay for equities looks like it has about run its course. A more likely return going forward: 3% to 4% after inflation, or about the pace of economic growth.


» Diversify your holdings in two dimensions: space and time. Diversifying across space means owning everything--U.S. and foreign stocks, bonds, real estate (through REITs) and natural resources. Diversifying across time means buying steadily regardless of whether the markets bounce up or down. You do that by dollar-cost averaging: putting money into your 401(k) regularly or signing up for an automatic investing plan at a mutual fund. Follow these steps and you won't be overinvested in an asset class that crashes, nor will you ever be putting in all your money at a market top.

» Be a cheapskate. If we are headed into a long stretch of blah returns, fees will cut deeper into your profits. Index funds with low expenses have an almost insurmountable long-term advantage over more expensive funds.

» Invest more. Sigh. You'll need to put more money into a lackluster market than into a rip-roaring one.


Chance of a market crash in any given year, according to investors 1 in 2 SOURCE: Vanguard Center for Investment Research.


Likelihood of a crash, according to research by Vanguard 1 in 50 SOURCE: Vanguard Center for Investment Research.


Diversify and hold down trading costs. Mediocre returns are the real threat to your financial goals.

FEAR No. 3 The Economy Collapses

REAL DANGER The U.S. juggernaut stalls

This summer, rising oil prices raised the specter of '70s-style stagflation. If that ghost isn't scary enough, you can worry about today's overextended U.S. consumer and federal government, and tomorrow's aging boomer. After all, some smart people are frightened. "We can't afford to pay for all the medical care baby boomers are going to need," says Bill Bernstein, a neurologist turned finance guru. A Medicare crisis, he says, could be "the biggest threat to the republic since the Civil War."

It's human nature to foresee the worst, especially when the present is bumpy. And the economy is rarely perfect. But before you let your fears run amok, remember that the most dire predictions rarely pan out. Since Thomas Jefferson was president, every 20 years or so the U.S. has faced a financial panic or an economic downturn that looked like a prelude to Armageddon. During the Carter malaise, one think tank after another argued that the energy crisis, inflation, the Cold War and environmental degradation would ruin our future. Instead we soon made a fortune in the great bull market. In the early '90s, economists foresaw a "jobless future"; the Goldilocks economy and 4% unemployment soon followed.

But prognostications of nirvana don't fare any better than those of doom. Our country was the global economy's golden child during the '90s, its flexible, tech- and entrepreneur-friendly approach looking like a magic formula for growth. But today the U.S. could be facing a long, sometimes painful return to average. Even optimistic economists figure the boomers' retirement will slow the pace of economic growth a bit. And we may well suffer a downturn when debt loads finally curtail our spending. But a long period of subpar GDP growth or a recession, even a nasty one, isn't the end of the world, and you've got time to prepare.


» Outsource your investments. Unless the planet comes under Martian attack, there will always be an economy that's thriving somewhere, even if ours is in a funk. Increase your concentration in overseas investments, which should make up 20% and, depending on how much volatility you can handle, perhaps up to 50% of your stockholdings. Start with a low-fee, total international stock index fund from the likes of Fidelity, T. Rowe Price or Vanguard. That way you're hedged against not only a U.S. recession but a fall in the value of the dollar as well, since stocks denominated in foreign currencies rise in value when the dollar drops.

» Buy TIPS. These Treasury bonds that go up in value when inflation rises are a near-perfect hedge against the ravages of rising prices.

» Put a sliver of your holdings--5% tops--in gold. The yellow stuff tends to soar when the economy goes to hell. Use low-cost exchange-traded funds (ETFs) to buy in. Then hope your investment goes nowhere.

Fear No. 4 Your Job Is Outsourced

REAL DANGER You're obsolete

Why does outsourcing make so many white-collar American workers so uneasy? Not because their jobs are really headed for Bangalore. Outsourcing overseas accounts for perhaps 350,000 lost jobs a year, the majority of them still blue collar, in a work force of 147 million. "The number of people around the world that are really qualified to substitute for American workers is much smaller than people believe," notes Martin Baily of the Institute for International Economics.

The scary thing about outsourcing is that it's a new threat. We're used to competing against a guy across town, not one who's half a world away. We imbue outsourcing with what psychologist Paul Slovic, a pioneer in risk analysis, calls "signal value." We interpret it as a sign of bad things to come, and we exaggerate how often it occurs.

Global competition is heating up, certainly. But the big threat to our jobs comes not from cheap foreign workers but from technological change and the creative destruction inherent in capitalism. Every year our economy consigns 13 million jobs to history's dustbin. The good news is that it generates 15 million new ones a year to take their place. (And no, they're not all in burger joints.) All that spells opportunity--and it also spells insecurity. But you can act to keep yourself from becoming obsolete.


» Get out of the office. "When you grow older, you tend to stay in your own little world, and take last week's skills and continue to use them," says Mark Mehler of CareerXroads, a recruitment consulting firm. To understand what skills your industry will value tomorrow, attend conferences, which also will allow you to rebuild your network of outside contacts.

» Start thinking like an investor, advises recruiter Dave Hickman of HirePursuit. Check out analyst reports about your company. Are they filled with terms like "dominant" or "dinosaur"? Scour earnings reports. Which parts of the business are growing? Are you in one of them?

» Pick up tech skills--work-related or not--that the twentysomethings around you take for granted, says Susan Eckert, an organizational development consultant. If you can't send an instant message or download an MP3 (legally or otherwise), learn. Get comfortable around new technology; you don't want to whine when your boss suggests a meeting should be conducted over the Web.

» Enjoy happy hour and the water-cooler chat. "The more you build relationships with others," says Hickman, "the more you'll be perceived as a contributor."


Number of U.S. jobs outsourced in a year 350K SOURCES: Economy.com, MONEY research.


Number of jobs lost to technology, competition 13 mil. SOURCE: Charles L. Schultze, Brookings Institution.


Socialize more, whine less, embrace tech. You don't want to act like the old guy who no longer "gets it."

FEAR No. 5 The Housing Bubble Pops

REAL DANGER You're in over your head

If the bursting of the tech bubble is seared into your memory, you'll tend to call up that readily available interpretive scheme as you analyze the surge in housing prices. Result: You see a giant ball of air. That would be an eminently sensible conclusion--if houses were stocks. Of course, they're not; they're bought and sold in particular local markets and infrequently traded and, well, you live in them.

On the other hand, if you're using interest-only financing to snap up condos in Fresno because you "know from experience" that this market only rises, good luck. Markets can suffer precipitous declines--ask anyone who bought in Massachusetts in the late 1980s. Even Alan Greenspan, a man utterly free of alarmist bias, recently warned that "the housing boom will inevitably simmer down" and that prices could fall.

The real bubble, though, isn't in housing but in housing finance, says strategist Ed Yardeni of Oak Associates. Variable-rate, interest-only mortgages have seduced people into buying more house than they need. (See "Crazy Loans: Is This How the Boom Ends?" on page 53.) Most at risk? Those who bought in late and are stretching themselves even to make their IO payments. "These people could be in some serious trouble," says Yardeni, if interest rates rise or home values fall even on a modest scale.


» Downsize. If you've used an interest-only loan to buy a McMansion when you can really only afford a three-bedroom split-level, get real. You're not building any equity, and if prices decline and you have to sell, you'll end up owing the bank. Also, if you're at a point in life when a smaller house is starting to look good, move now and secure your gains.

» Think about what can go wrong. If you're counting on home equity to provide for your retirement, ask a financial adviser to assess what will happen to your plans if your home's value drops by 10%, 20% or 30%, says Joe Davis, a research analyst at Vanguard.

» Look at locking in. The gap between variable and fixed-rate loans has been narrowing as the Fed pushes up short-term interest rates. So grab a fixed rate of interest now. Waiting could add hundreds of dollars to your monthly payment.

FEAR No. 6 Your Identity Is Stolen

REAL DANGER Your credit report is riddled with errors

If the thought of a hacker selling your Social Security number to the Russian mob via some Internet hidey-hole sends you into a panic, you're not alone. Identity theft pushes a lot of fear buttons. It's mysterious: We don't know who or where the threat comes from. We're exposed involuntarily: Data tapes fall off trucks and employees steal disks filled with credit-card numbers. And we lose control of a precious asset: our good name.

Reality: The really scary thieves-leading-our-lives stuff rarely happens. Far more common is garden-variety credit-card fraud that stems from everyday security breaches like lost wallets or checkbooks or, worse, personal information swiped by family or friends. In most of those cases, your losses, if any, will be small and the inconvenience minor. (So don't bother with ID theft insurance.)

A bigger danger than thieves wrecking your credit rating? Your credit rating being wrecked by accident. A 2003 Federal Reserve study of 250,000 credit reports found that 70% contained mistakes. A 2004 U.S. Public Interest Research Group analysis of 200 reports found that 79% had mistakes and 25% contained serious errors, such as false delinquencies or accounts that didn't belong to the consumers, that could result in a denial of credit.


» Leave ID you don't need at home. "The absolute worst piece of information that can get out is your Social Security number," says Avivah Litan, an ID theft expert with Gartner Inc. So never carry it on you. And don't give it out unless absolutely necessary.

» Monitor your credit--for free. You're entitled to a free report from each of the three major credit rating agencies every year. Ignore the ads for FreeCreditReport.com, not to mention the spammy come-ons that keep appearing in your e-mail inbox. Instead, go to annualcreditreport.com. Use that service to hit one agency every four months and you'll stay on top of your financial info. If something's amiss, tell the reporting agency--in writing--what's inaccurate (see "Money Helps" on page 26 for details) and send your claim via certified mail with return receipt requested. The agency has 45 days to investigate. For more on how to read your credit report and look for errors, turn to "Do It Now" on page 45. And fear the cyberthieves no more.


Chance that you'll be a victim of high-tech identity theft 1 in 200 SOURCES: Federal Trade Commission, Javelin Strategy Research.


Chance that your credit report contains an error 7 in 10 SOURCE: Federal Reserve.


Get three free credit reports a year. That's an easy, cost-effective way to protect against errors and ID theft.