Building A Financial Bunker

With unemployment figures up and consumer confidence down, many Americans are searching for strategies to ride through this current period of uncertainty. And while that has some scrambling for duct tape and canned goods, others are more focused on the financial instability that could come with war — the toll it could take on the U.S. economy and, ultimately, their own lives. "People are confronted with the question, 'Is my family taken care of?'" says Saul Simon, a certified financial planner (CFP) with the Simon Financial Group in Edison, N.J. Knowing that your "financial bunker" is sound can provide psychological comfort and also make you better prepared should fears of a double-dip recession prove accurate.

Fact is, despite a plethora of predictions from talking heads, no one knows for sure how a war with Iraq could affect the U.S. economy. What it rides on is "How long? How bad? How expensive?" says Andrew Bernard, an economics professor at Dartmouth College.

One thing's for certain: Should this war happen, it will be significantly more expensive than the Gulf war in 1991. Costs could run anywhere from $60 billion for a short-lived successful attack to $1 trillion for a prolonged military conflict, says professor Michael Miller, chairman of the economics department at DePaul University. Of course, the huge wildcard is the potential costs of rebuilding Iraq, something the U.S. may be doing without many allies to help foot the bill.

A larger concern is a spike in the price of oil, which is already at its highest in absolute dollars since the Gulf War. And should Saddam choose to burn his oil fields, this problem would most likely only get worse, leaving U.S. consumers, already feeling pain at the pump, with fewer discretionary dollars to spend. "[High] oil prices are like a giant tax on the American people," Miller says. "This will only hurt our economy."

Of course, not everyone is a doomsayer. Some experts say a quick, decisive strike on Iraq could help the economy dodge a double-dip recession. And history has shown that the stock market often rallies once the bullets start to fly. Nevertheless, even some of those who anticipate a short, successful war don't anticipate a robust year for the U.S. economy. "We'll get another year pretty much as last year," says Jeffrey Matthew Humphreys, director of economic forecasting at the University of Georgia. (For more perspective on how war could affect the U.S. economy, click here.)

Regardless of how you expect a potential war to play out, during times of economic uncertainty it's wise to make sure your financial house is in order. Here are some steps you can take.

Shore Up the Emergency Fund
First things first: If you don't have an emergency fund, create one. Immediately. This should be three- to six-months' worth of living expenses held in a cash account, such as a money-market fund. The key is for the money to be accessible, so you aren't forced to cash out of equities or face a penalty (as you would with a CD) if you find yourself forced to withdraw funds to pay for everyday expenses.

During times of uncertainty, you may want to add a bit more to your stash. This is particularly important for those who think their jobs could be at risk, says Mitch Swanda, a CFP with USAA Worldwide Insurance. According to the latest employment report, the number of unemployed workers who have been out of work for more than six months is 22% — and that figure is expected to rise. So if you're working in a high-risk sector, such as telecommunications or aviation, you may want to increase your emergency fund to cover as much as 12 months' worth of expenses, says Swanda.

For tips on how to find the best money-market funds, click here. And to find the best rates, visit imoneynet.com.

Invest Wisely
Many investors are wondering if they should be reallocating their portfolios to prepare for war or another recession. For long-term investors, the answer is probably not. Panic selling into a falling market is a huge mistake for those with an investment horizon long enough to ride out these tough times. "The first thing an investor needs to do is recognize that markets are cyclical, and that the long-term trend in the U.S. markets for the past 50,60, 70 years has been upward, and that's going to happen here," says Joe Moglia, chief executive of Ameritrade. (To see this for yourself, click here.)

Remember, insecurity often breeds poor investment decisions. Investors tend to move toward comfort, often buying when the market is high and selling when the market is low. That's not smart, says Don Cassidy, a senior research analyst at mutual-fund tracking company Lipper. "It's like driving your car by looking in the rearview mirror," he says. "You're projecting what's behind you into the future, and sooner or later that won't work out for you."

Keep in mind that many of the problems investors have encountered during this bear market stem from bad asset allocation. Those who weren't properly diversified (and particularly those who also had a relatively short investment horizon) have paid a dear price. So if your asset allocation is still out of whack, fix it now. After all, riding out a bad investment in hopes of eventually earning a profit or simply breaking even is not a smart strategy.

Assuming your investment horizon is eight years or more, you should most likely continue with your current investment strategy. If you're dollar-cost averaging via your 401(k), for example, focus on the fact that when the market is down, your contributions are buying more shares at lower prices.

To get a good sense of your proper weighting of stocks, bonds and cash, see our Asset Allocator. If your investment horizon is relatively short, visit our Short-Term Investing section, which includes mutual-fund picks that should provide decent returns at relatively low risk.

Dump the Debt
Carrying a lot of high-interest credit-card debt when an emergency hits (such as a layoff) is a recipe for disaster. And these days the average household that has at least one credit card has a staggering balance of $8,419, according to the latest figures from Cardweb.com.

Sound familiar? Then it's time to clean up your balance sheet. The key to paying down credit-card debt is to make your payments early and often — and be sure to pay more than the miniscule 2% of your balance that's the minimum payment requirement of many cards these days. To see how long your current repayment plan will take you to dig out of debt, see our calculator. Our article, Help! I'm Drowning in Debt, can provide guidance for those whose debt is becoming overwhelming. And for more on debt management in general, click here.

And if you still haven't refinanced your mortgage, now's the time to do it. The average rate for a 30-year fixed-rate loan is a remarkable 5.80%, according to mortgage-rate tracker HSH Associates. (This figure includes jumbo loans, which typically carry a higher rate than conforming loans.) That's the lowest rate we've seen since 1964, and chances are, it won't go any lower, says Keith Gumbinger, vice president of HSH Associates. Once a potential war is over, rates will likely go up by around 0.25 to 0.5%, he says. "This is probably your best time, perhaps ever, to refinance your outstanding debts into low-interest mortgages," Gumbinger says.

Low mortgage rates also mean that now could be a good time to consolidate credit-card debt via a home-equity loan or a home-equity line of credit. But be warned: While this strategy can make enormous sense from a pure numbers perspective, it could prove lethal if you're the type who will simply accrue more credit-card debt once those balances are paid off. For more on this, see our story.

Create a Contingency Plan
While the chance of being a victim of a terrorist attack is highly unlikely, a Code Orange alert (as we're likely to see once again if the U.S. goes to war) will have most Americans thinking about how to protect their families. Knowing that your life-insurance and estate plans are in order can provide some psychological comfort.

Life Insurance
Do you need life insurance? And how much is enough? The short answer is if you're single with no dependents, you can probably skip this section. But if you have children or a spouse who'd no longer be able to continue to live in his or her current lifestyle if you died, then it's time to purchase a policy.

To see how much you need, run your numbers through our calculator. We can also help you determine whether term or whole life is the way to go, as well as help you find ways to cut costs. For more, see our On the Agenda: Life Insurance.

Estate Planning
The first step in estate planning is figuring out your net worth. Our worksheet can help you with that.

Once you tally everything up, chances are you'll find you're worth more than you imagined. So if you don't have a will, now's the time to create one. And it doesn't have to cost a lot of money: You can get a simple will drawn up at a legal clinic for as little as $75. If you have a more complicated estate, a lawyer will probably charge you somewhere between $500 and $1,000 for the job. For more on wills, see our story Good Will Hunting. And for information on trusts and more sophisticated estate-planning strategies, visit our Estate Planning section