Absorbing Shocks

Insurance works on the “law of large numbers”. Unlikely events with big consequences are spread out over large groups. A small, certain, premium that can be afforded instead of a small, uncertain, chance of ruin. You can self-insure for a lot of events if you have enough capital that it won’t result in your ruin. I built my Engine the traditional way. With a salary (from a job) that was bigger than my expenses. When I started, I took out life, earning ability, and severe illness cover. The world is designed around us living hand-to-mouth with our salaries defining our capacity to take and absorb risk. To snap that connection, you need a gap. Then that gap needs to be invested, and what it earns reinvested, until your Engine can be working and earning what you need to spend. It is only with a working engine that your life choices can be gradually freed from the constraints of money making. Good ideas that are not good business ideas are still worth doing. They need to be powered by good business ideas. Merit/worth/value (a good idea) is not sufficient. At least not in the beginning. With planning, you can increase your ability to be the one who decides what has value, and what you do with your time. 

 

Polis Smous

I started my career in Finance in South Africa and the United Kingdom during two watershed moments. Just after the bursting of the Internet Bubble, and during the cracking of the walls around endowment policies and remuneration of Insurance Sales. Endowment Policies pay a lump sum after a specific term or on death. They combine investment and risk cover. The sales people often were not professional financial advisors giving appropriate advice. They were remunerated up front, in commission. If the client stopped paying their premiums, or another “Polis Smous” (Policy Hawker) convinced them to churn/swap, there were big, indefensible, clawback penalties. The scandal made the environment ripe pickings for “Pure” investment or risk products, and saw a massive professionalisation of the advice industry. Allow time to pass, and even the pure grow and get legacy skeletons in their closet. The constant trade off between starting from scratch, and keeping the good bits of the old way of doing things. As the environment changes, we need to change. The question is whether we are brave enough to be transparent and honest.

Cornerstone

Barriers to Entry include base expenses. The price of a seat at the table before you even have any money coming in. The cost of getting out of bed in the morning. In my industry, this includes professional indemnity insurance, regulatory oversight (to ensure compliance with financial authorities), and the necessary software to protect client data. That is just to talk to people. If you want to manage money for them, there is a whole host of other protections to put in place (custodian banks, accountants, administrators, lawyers). Like home mortgages, banks lend to people who can prove they have the money coming in. To get started, you need a cornerstone client. Someone with money and the problem you know how to solve that can reliably cover your expenses. Ideally, you could be your own cornerstone. If you had Capital that reliably covered your base expenses. Without a cornerstone, it is difficult to build.

Church of Saint Paul in Macau (1602)

Big Waves

It is almost impossible to build Capital if the noise of life and money, is bigger than your earning capacity. Starting from zero is the hardest part. Pooling big risks is how we historically managed this. Groups of risk takers joining together and splitting the costs in “Mutual Societies”. Accepting a smaller loss for certain instead of a big loss that wipes you out. The biggest component of wealth creation is time. To have time, you need to be able to withstand the things you can’t control. My rule of thumb is to self-insure for things that won’t wipe me out. For the rest, get cover if you can. The three basic “big waves” are Death, Disability, and Severe-Illness. If you have dependents, then Life Insurance is necessary to stop your death meaning severe hardship for your loved ones. This is the history of “Scottish Widows”. Severe Illness insurance does the same, but you are still alive and may still work again. Disability cover is for when an accident prevents you from earning. Insurance allows the fire to start.

Mavericks (2010)

Taking Cover

Disability Insurance provides Income Protection. People are Productive Assets. We link our survival to our ability to make money, and if you become disabled, that ability becomes impaired. When I started working after university, my first job was in Disability Product Development. You pay a premium (your share of a pool of money covering all those at risk), and if something awful happens, the associated financial pain of the tragedy is lessened. One type of cover provides a Lump Sum, which then needs to be invested so that it can work on your behalf. Another type pays a portion of your salary till retirement. You can get “Own Occupation” cover which costs slightly more than “Any Occupation” cover, because you may still be able to work, but not do the thing you wanted to do. “Daily Tasks” cover is less job dependent and focuses on whether you can do the physical things you need to do to look after yourself. From that first job, I became determined to not be that dependent on my income. But while I was, I got the thing I was helping sell to others for myself - Disability Insurance. I kept the cover till I had built an Engine to cover myself.

Well Covered

My rule of thumb for insurance, is to buy cover for the risks you can’t handle, while building capital to handle as much of it as you can yourself. Perhaps it is the Self-Reliance that was beaten into me by South African folklore. I push back hard on most people who talk of being “against hand-outs” when it comes to charity. Most of the time that push back doesn’t come armed with a mirror. The boundary between a hand-out and privilege is unclear to me. Privilege is compounded entitlement made invisible. Before you can start building breathing space, you have no choice but to rely on others. No one is self-made. Gradually, you can reduce that reliance. By building Capital. The only way to build that self-reliance is by snapping the connection between income and expenses. Self-reliance is a privilege. It is also one that frees you up to give back. If you get to the point where you no longer need to consume everything that is coming in. Separating consumption and creativity is the key to sustainability. The key to handling risk.

Wanting It

I didn’t plan to retire at 34. I had failed to get the job I wanted at one company, and moved to another. It again looked like I wouldn’t be able to take my fate in my own hands. I was frustrated. The South African mentality of not blaming or relying on anyone was in me. Make a plan. Do the work. Except that didn’t seem to be how the world worked in reality. There was too much noise for plans. Too much politics for agency. I did plan for the risk of getting disabled and not being able to work. By 34, I had built enough Capital to live a simple life if some bad fortune prevented my hands from feeding my mouth. Particularly frustrated by my lack of control, the realisation dawned that it was available if I wanted it. I didn’t have to be disabled to stop working for an income. If I refocused on the things that really mattered to me. That meant letting go of traditional measures of status and success. I would be time rich, but seemingly lost to many. But time, space and relationships are what I valued. So I took the step.

First Day Post Work - August 2014

Paying Attention

Insurance is a Grudge Purchase. You don’t see the benefits when things are going well. When things go wrong, it is tough to feel good about it being only less bad than you wanted. The first insurance companies were Mutual Societies. People who knew each other getting together in coffee shops to spread the risks of dying in war, or of betting their entire fortune on a single venture across the stormy seas. People who knew each other. Communities spreading the risk. Two of the best forms of insurance are Community and Education. When Winter comes, as it always does, fear is not there because of the confidence in the roots. You don’t begrudge giving support when you feel connected. To past investment. To future springs. To each other. Mudita is the opposite of the better-known emotion of Schadenfreude. Mudita is the sympathetic or vicarious joy that comes from delighting in other people’s well-being. To experience Mudita, we need to “pay the premium” of building relationships. Paying attention. Seeing relevance. Building meaning.

Smoothing the Road

My rule of thumb is to self-insure where you can afford to, insure for the knocks you can’t take, allow for the risks you can’t insure, and invest the rest. Insurance helps smooth the road. We have known expenses (housing, food, transport, utilities, taxes). We have big ticket unusual events we choose (weddings, holidays, renovations, cars, bigger houses), and big-ticket unusual events that choose us (sickness, redundancy, disability, death, divorce). You want to get ahead of these events by building up Capital rather than behind them by building up debt. When I started work, I took out Disability Insurance, Severe Illness Cover, and Future Cover. If I couldn’t work, I still needed to earn. If I got very ill, I didn’t have the Capital to absorb that pain. Future Cover allowed me to get further insurance with limited underwriting (health checks) should my needs change. I chose a Finance-STEM job so that I more than covered my expenses and then built up Capital till I felt I was in the sufficiently privileged position that I could self-insure. Endurance and Resilience aren’t the point. But they provide the foundation for the point. Creativity.

See a Stream

Disability Insurance covers the risk that you are unable to work. If you can’t work, you still have to live, and the way society is structured… it is a problem if you aren’t a productive asset. Should you get disabled, depending on the product you bought, the cover is paid out as a Lump Sum or an Income stream. This is intended to replace your earning ability, and the adjustments to your lifestyle. A useful analogy for Engine building. People don’t have to be productive assets. You can replace a salary stream with sufficient Capital. You don’t have to get disabled. You do have to build the Capital. The challenge is changing the way you see money. As something to look after, rather than something to spend. $1,000,000 is not a big pile of cash to be spent. It can be an income stream. Put to work on your behalf, it *can* last for life *if* you spend less (on average) than it makes (on average). 3.5% real return (after tax, inflation etc.) would give you $35,000/year. Capital for life. For life.

Streams create Life

Rabbit Hunting

Rabbit Hunting in Poker is when you fold, then ask the dealer to deal the next card anyway to see “what would have happened”. Serious Poker Players don’t hunt rabbits. Because it isn’t relevant. Hindsight doesn’t give you any information at all, because the deck is always reshuffled before you play for real. Insurance is often treated as a Grudge Purchase. You don’t “get” anything if things go well. We are a little too obsessed with the conspicuous and the version of reality that plays out. Obsessed with predictive power. Obsessed with results. The world is complex, ambiguous, and random. We learn more from people who get it wrong, than people who get it right. If we thought the person was going to be right, and then they were wrong. The best we can do is build endurance and resilience to handle whatever cards we are dealt. Then do something we value whatever the outcome.

Detachment Device

Disability Insurance is the most important form of cover when we are expected to be productive assets. It doesn’t cover your ability to live. It covers your ability to earn. Those are different things. If you aren’t “useful” to someone else, the costs of life continue. Insurance Companies also provide cover for non-income earning activities like Daily Tasks, because normally when people can’t do things like open a door, pick up a cup, or walk up stairs, the world doesn’t treat them as well. We revolve around self sufficiency. Around utility. Around transactions. It’s brutal. When we think of insurance, often it is Life Insurance that is the first thought, but the sad truth is a person’s earning capacity or cost that is what is being covered. You can’t ensure life. Like insurance on a sentimental ring, it covers the dollar amount, not the sentiment. Building Capital or getting insurance are simply means to take that angst off the table. A detachment device to allow someone to be a someone, not a means to an end.  

Lotus - soaring over muddy waters 

yet still producing beauty

Breadwinning and Homemaking

Most families rely on Breadwinning. To build a life, people must be productive assets. The projected stream of earnings from that winning of Bread becomes baked into an expected reality. The idea of Life Insurance is that the financial implications of death can be removed. The loaves can continue to arrive without the Baker. Disability scares me more. The expectations remain, but the previous winner must witness the impact of them not being able to keep up the flow. When I started full-time work, Disability Insurance was my prioritised form of Risk Control. I hate the idea of being a Productive Asset. I also invested aggressively. Eventually, I got to the point where I had an Engine the size of the cover I initially put in place. It covered my starting salary, from years before, well. It didn’t cover the increased expectations. Beyond a minimum amount, expectations are more under our control. By dramatically cutting my expenses, I could turn my back on being a productive asset. I could focus my attention on things that were good ideas rather than good business ideas. Capital can be the Breadwinner, so that we can be the Homemakers.

Rope-a-dope

Living hand-to-mouth makes it very difficult to absorb shocks. Even if your income matches your expenses, life has a habit of faking left and punching right. My rule of thumb is to “self-insure for the knocks you can take, and buy insurance for the ones you can’t”. Insurance is a Grudge Purchase. If you pay the premiums and nothing happens, people moan. Since you don’t get anything. Except it is really like a reverse lottery. Do you really want to win? When it is tough enough to meet expenses, finding a little to put aside to pay for insurance is hard. Hard, but important. If you can find breathing room between your hand and mouth, you can start to build a Buffer. A little Capital to call on when there are surprises. If no surprises blow your Buffer out the water, it can grow into an Engine. Capital that can be put to work and power you through more knocks.

Space to Breathe

The majority of people marry their spending to their earning, till death do they part. For better or worse. In sickness and in health. The lifestyle to which we become accustomed depending on the fruits of someone’s labour. That someone becomes a productive asset. Which is why Life and Disability Insurance become so important. If the person who is a cog in the machine breaks, the wheel stops turning. This isn’t necessary. By building Capital, you create an Engine which can set the person free. This means you need to first snap the connection between hand and mouth. Below a certain amount, it is completely understandable. Life is about survival. But it is important to be honest about what that “certain amount” is. Life is about more than survival. Life requires space to breathe.

Productive Assets

People don’t have to be productive assets. But most people live hand-to-mouth. If asked what your biggest assets are, and you own them, you may be tempted to say your house, your car, or your stuff. Those (with exceptions) are not productive assets. A productive asset generates cash for reinvestment or other uses. For most people, *they* are their biggest productive asset. Which is what makes disability insurance so important. Not being able to work can cut off people’s ability to survive. Life is about more than survival. It is why we often spend more on our houses, cars, and stuff than we need to… even though it isn’t a good “investment decision”. If your Engine is strong, you can afford to do that. Life isn’t an investment decision. We don’t have to be the Engine. If we invest in productive assets, gradually we can build Capital. An Engine that is independent of us. Then use that Engine as a muse in whatever way we choose. Without having to filter our activity through the question “how can this make money?”.

Finding the Power

Expected Unexpected

A Buffer is a form of self-insurance. Like a salary that only meets your expenses is hand-to-mouth survival, actual insurance takes the bumps out of life in exchange for a premium. It is hand-to-mouth risk control. You pay someone else to remove the bumps. A Buffer is Capital that you can draw on if you need to. Some months you spend more than others, because of expected unexpected events. Flat tires, broken toilets, dropped vases, leaky fridges and rats in the roof. These are annoying but hardly unusual. If you have breathing space between what you earn and spend, building a Buffer can take care of you. The bigger the Buffer, the more you only need to pay for insurance for the smashes and canyons that would wipe you out. A Buffer is temporary, till things right themselves, support. An Engine would be enough Capital to give you Financial Security without requiring you to be a productive financial asset. An Engine would be the breadwinner, and rock, in your family so that you can build a life. And rock.

Self-Insurance

Many Insurance Companies started life as Mutual Associations. In South Africa, one of the oldest is still called the Old Mutual. It was where I started my working life. The origin story of the profession I joined started with Scottish Widows. During the Napoleonic Wars, some prominent Scotsmen got together in the coffee shops of Edinburgh to make provision for their widows if something should happen to them. John Fairbairn, who started the Old Mutual, was born in Scotland, and attended the University of Edinburgh at around the time Scottish Widows was born.

I am writing this piece in the Isle of Skye in Scotland. I drove up through Pitlochry, Braemar, Blairgowrie and Blair Athol. These are all names I am very familiar with. I grew up in Westville (Kwa-Zulu Natal, South Africa) and one of the primary schools is called Pitlochry. The main road through the heart of Westville is Blair Athol. My house at Westville Senior Primary School was Braemar.

Pitlochry

Many of us live hand to mouth. This makes it a real problem if the hand gets damaged (or buried). Rather than simply a person to be loved, people become a source of income. A Provider. Traditionally, we were reduced to roles we had to play. Relationships as jobs and responsibilities. Men became the money, the muscles (or bodies in wars), and the sperm. Women the cooks, cleaners and mothers.

I am a believer in building Engines and Buffers that remove these expectations. Where you can still fulfil any roles you choose, but there is some agency in it. It isn't a transaction.

Community is our most natural provider of Buffers. That is what Mutual Societies were. Before people started expecting the Government to look after them, they just did it themselves. They got together and made a plan.

When I started working at Old Mutual, I took out life cover, disability insurance, and severe illness cover. At that stage, I didn't have dependents or a mortgage. The thing that scared me the most was the inability to work. For most of us, that is our biggest asset when we start out. Work isn't primarily about fulfilling the yearnings of our souls. It is about food on the table, and a roof over our head. When you can't work. That is a problem.

Figuring out the amount of cover I needed was the seed of my future early retirement. I gave some thought to how much I would need if I couldn't expect myself to be the breadwinner. I then got that cover, and at the same time started building that Engine myself. If you build up Capital, it gets to the point where you are free from that underlying fear of what if something goes wrong. You can Self-Insure. You can handle bumps and dips without needing to look to the community for help. You can't Self-Insure if you live hand to mouth.

I now believe in building Community Wealth Funds. This is the same thing as I did for myself, but closer to the coffee shops of Edinburgh. Where people come together and build together. The Westville I grew up in was part of Apartheid South Africa. The Pitlochry some of my friends went to, and the Westville Senior Primary they joined me at, were for white children only. That ended in 1994, and gradually children from other areas started joining us. Gradually a new community started being built.

At the moment, most people in South Africa don't have Engines or Buffers. Most people in South Africa are defined by their roles as Breadwinners and Homemakers. We are more than what is expected of us. With time and building, we can release ourselves.

Social Insurance

Are you a fan of the 'pay for yourself' or the 'split the bill' model of going out for dinner in a group? It probably makes a difference if you are a tee-totalling vegan (TTV) or a drunken meat lover (DML). Splitting the bill avoids the nightmarish accounting required, and policing of friends. It helps to know in advance for the person who has come for the company, but not the bill (salad and tap water please).

It is likely the TTV will be a fan of pay as you go, and the DML will mock them as a cheap spoil sport. This is called 'adverse selection'. Naturally we are going to fight our corner. Young, healthy people aren't going to fancy splitting the health bill. Older, sicker people are going to call them spoil sports.

Social Insurance is one way of agreeing in advance, behind the 'veil of ignorance'. If you didn't know which character you would be, what is the fairest way of splitting the bill for the biggest risks we face in life that aren't your fault?

Risks like being born in the wrong place, of the wrong gender, liking the wrong gender, to the wrong parents, with the wrong skills.

Part of a Universal Basic Income could be set aside to pay a 'veil of ignorance' social insurance premium - to cover some of the risks that are nobodies fault.

Going Dutch?

Sustainable Wealth

Most people's biggest asset is their ability to work. That is why Disability Insurance is a bigger deal than Life Insurance. If you aren't alive, you don't need money. If you can't earn, we as a society haven't quite figured out how to no make that a big problem. The first thing we do every day, is survive. Everything else is a bonus. The magic of 'Capital' is you can transform your labour into something that can exist beyond you. Active Income comes from what you do. Passive Income comes from what you own. In an ideal world, we would have Community Wealth Fund generated Universal Basic Incomes. Basic, so incentives to do more remain. But more isn't necessarily monetary. Sufficient that we aren't living hand to mouth. Hand to mouth has no buffer, and hand to mouth is a Ponzi Scheme when the hand disappears. Sustainable wealth is an empowered community defined by more than our ability to survive.