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A Thought About Risk

January 3, 2020
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A Thought About Risk

In an information-intensive, fast-moving world where instant gratification is prized, I would make the case for the rewards of practicing patience” says Tony DeSpirito, Chief Investment Officer for US Equities at BlackRock Inc., one of the world’s largest institutional investment managers.

As we all know, investing in equities is a long-run pursuit. Yet daily headlines have a way of distracting investors from the end game. Many investors let an investment’s short-term price movements, or perceptions of short-term price movements drive their decisions. But since short-term price moves are unknown, irrelevant and independent of an investment’s long-term merits, it therefore isn’t worth analyzing or worrying about.

The other thing we are all taught is that time is an investor’s friend. The volatility (or ups and downs of the market) smooths out significantly over time. As Tony highlights in his recent article “Rethinking Risk in Equities”, he points out the industry and media often default to looking at, one-day, one-month, one-quarter or one-year market movements as measures of risk which can illustrate a fairly choppy up and down picture and can also grab headlines!

But as he points out, and we all know from experience, by extending the timeframe to 3, 5, or 10-year time horizons, volatility smooths significantly. The research article continues to look at investments in the S&P 500 Index since 1871, showing that there is a 28% chance of your investments producing negative returns over a 1-year period. However, by holding your investment for just 5 years, the probability of a negative return drops to just 11%. By combining different markets and asset classes in a well-diversified portfolio, you can reduce the chances of negative returns even further.

This article is a friendly reminder that as investors trying to build wealth for our future, we are always encouraged to put a long-term lens on any market movements. Instead of focusing on short-term headlines, investors should always be more concerned about decisions they make and have control over that can jeopardize their long-term success. The chief culprits of these short-term decisions are:

  1. Exiting the market on a price drop, only to miss a strong rally. History shows it is better to stay the course rather than try to time the market. Few, if any, investors are consistently good at it. I know we hear this over and over but as the media gets better and better at generating fear, it is vital to ignore all the fear and panic generated by the next big crisis.
  2. Losing out to Inflation by trying to play it safe in lower yielding but “Risk Free” investments. Equities are currently yielding more with just their dividends (i.e. Not counting any price increase over time) than bonds or GIC’s pay in interest today. The greatest long-term threat to retirees is not any short-term market drop, but the risk of running out of money due to inflation and longer life spans. Most of us are retired or living off of our assets for up to 30 years or more.

Taking this all into account, Tony argues that short-term volatility is unsettling but is not the biggest risk to long-term investors. Fleeting price changes should be of little concern to someone with time horizons 5,10, 15 or more years away.

You will find this research consistent with our guiding principles for success outlined in our meetings and on our website; Faith in the Future, Patience, and Discipline. Rome was not built in a day. It is important to realize that there are huge odds that you will have a 20-30 year retirement. That is good news. Most people have a much longer investment time horizon than they think!

It is our strong belief that to be successful in reaching your goals it is necessary to have a plan in place and to follow a process. That is, to make your life and financial decisions not by accident but by design.

Remember, successful people ACT towards the future they want!

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