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Protect Yourself Against Financial Wipeouts

You know what it takes to be a responsible adult, right? Eat your vegetables, use your seat belt, pay your bills on time. Well, here's another one to add to the list: Buy insurance. It may be a boring topic, but it's kind of ... critical.

Traditional insurance
First off, remember what insurance is for: to protect yourself against possible financial losses. So here are the main categories of insurance, along with a few you may not have thought about. (You can also read about most of them in our Insurance Center.)

  • Health insurance. Many people mired in massive credit-card debt or bankruptcy court are there because of a health crisis that cost more than they ever imagined it could. Whether your employer offers health insurance or you buy it on your own, this is a critical coverage to have. I know that's easier said than done these days, but you can start by getting some tips here. You can even obtain pet health insurance nowadays.

  • Auto insurance. Without this, you can see the value of your nice new set of wheels shrivel up into a worthless, mangled pile of metal -- or, even worse, you can face major losses as a result of liabilities.

  • Life insurance. This one is actually a "maybe" for many people. It's meant to protect against the loss of the income stream that you provide over your life. But if you have no dependents, and if no one is counting on your income, then this is probably not necessary. Parents should definitely consider signing up for some life insurance, but they can also consider dropping it when Junior is out and working on his own.

  • Disability insurance. This is a type of insurance that most people wrongly assume they'll never need, and people tend to shy away when they see what it can cost. But the reason the cost tends to be steep is that there's a decent chance you'll need this coverage, especially if you're temporarily or permanently unable to do your job at some point.

  • Long-term-care insurance. This is also well worth looking into as you near retirement. Don't assume that Medicare will be enough.

  • Homeowners' insurance. Here's how you can avoid losing your home at the hands of a catastrophe. If you're renting, consider getting renter's insurance. That can cover the cost of your possessions, should there be a fire or some other loss. (Get some other tips here.)

Insure your investments
Now let's look at some other ways to protect yourself against financial losses. For starters, you should make sure your bank accounts are FDIC-insured and that your brokerage carries SIPC insurance to protect you if your financial institution goes out of business. But if you want to protect yourself from investment losses, there are some other things you can do.

One way some investors protect themselves is by using special trade orders with their brokerages, such as "stop-loss" orders, which trigger an automatic sale of a stock if it falls by a certain percentage. That's a way to limit your downside, though it also may end up limiting your upside.

Another option is ... well, options. For instance, if you own shares of Costco (Nasdaq: COST  ) , and think that its newly revised return policy may cause its stock price to fall, you could buy a "put" option on the stock rather than sell it outright. Put options give you the right to sell a certain security at a certain price within a certain time frame. (Learn even more while you're at it.)

Finally, you can employ a certain degree of protection by being careful with your investments. Make sure you diversify and don't have, say, 25% of your net worth riding on one company. Invest in companies that you believe are reasonably undervalued and thereby give you a margin of safety. And keep up with your holdings, to reduce your chances of getting blindsided by bad news.

Keep learning
Insurance is constantly changing, so keep informed by reviewing the information in our Insurance Center. It could be the best thing you ever do.

These articles may also be of interest:

Longtime contributor Selena Maranjian owns shares of Costco, which is a Motley Fool Stock Advisor recommendation. For more about Selena, view her bio and her profile. The Motley Fool is Fools writing for Fools.


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Selena Maranjian
TMFSelena

Selena Maranjian has been writing for the Fool since 1996 and covers basic investing and personal finance topics. She also prepares the Fool's syndicated newspaper column and has written or co-written a number of Fool books. For more financial and non-financial fare (as well as silly things), follow her on Twitter...

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