This Is What Risk Looks Like

By August 25, 2015 Uncategorized No Comments

The past couple of days have been rough. Between last week and Monday, the markets have taken everyone for a ride. Our advice? Don’t do anything different – stick with your plan. One of the platitudes everyone (especially me) constantly refers to is that risk and return are related. You can’t get higher returns without taking on more risk. Well, this is just one of the ways risk shows itself.

This has Happened Before and Will Happen Again

Looking at the historical data, it’s clear things like this have happened before. Newspaper headlines from the past are filled with examples of terrible days, weeks, or months. But they don’t tell us anything about what things will look like going forward. If we take a look at the chart below, you can see how the markets react after big events.

This is What Risk Looks Like

The striking thing is that they look like the returns from any other period that we could select. And that’s because that’s essentially what they are. If you just look at the returns, some are up, some are down, but they look pretty normal. This is because markets move almost instantaneously to events. They are constantly reacting to new information. Knowing what happened in the past does not help you predict what will happen in the future. Until we perfect crystal ball technology, there is no way to know which way the market will go tomorrow.

This is Why Markets Work

Financial markets work because capitalism works. Investors expect positive returns, and the way they get them is by putting their capital at risk. No one would put their money at risk without a good reason, so the market needs to pay higher returns in the long term to get those investors to put money in. That’s a long-winded way of saying risk and return are related. This is one of the ways risk manifests.

If we didn’t experience down days, weeks, months, quarters, years, there would be no reason to expect higher returns in the long run. These negative returns are one of the things the market is paying us to accept. If you’re a long term investor, this is just noise. The past week or so may have been catastrophic to short-term speculators, but it’s just another day at the office (albeit a rough one) for long-term investors.

Make Sure Your Asset Allocation is Right

Don’t get me wrong: You should still try to position yourself to best weather the market’s ups and downs. You don’t need to head up into the crow’s nest during the storm. You need to take an honest look at yourself and your financial situation and decide what the appropriate level of risk is for you. We don’t believe in shooting for the high score with your investments – they are a means to an end. You want to accomplish your financial goals in the simplest manner you can.

When you are deciding on your asset allocation, you want to be thinking about how much risk you can take (or how bad things can get) before you just can’t stick with your plan anymore. There is no wrong answer here. Everyone’s risk tolerance is different. There are race car drivers who can’t stomach any financial risk, and there are accountants buying stocks on margin. It’s all about what you can deal with. We’ve seen what a bad week looks like, but you also need to consider how you would react to a bad year, or couple of years. This is the real meat of investing – if you can decide on the right asset allocation, then the rest is reasonably easy.

What if My Asset Allocation is Wrong?

If you have already set up your asset allocation and are worried that you got it wrong — not just a little concerned, I mean you’re too worried about your portfolio to sleep, you keep checking CNBC, or drinking Maalox straight from the bottle like Mrs. Wormwood — then it may be time to reconsider your portfolio mix. This is not something to do lightly.

Generally we recommend that you only do this when something in your life changes. When you get married or divorced, have a child, get a big raise, or something similar happens, then your financial situation materially changes. When you misestimate your risk tolerance, things are a little more murky. If you simply cannot stomach the losses that you’re taking, then you should probably take some of your money off the table and move it to something safe. You’ll want to make as small a move as possible though.

Just get to a place where you can ride out the storm, and then when things have quieted down, you can go back and calmly look at your situation. How much less risk do you need to take going forward? How do you want to do that? Just like setting up your initial allocation, there is no right answer, but this time you have a lot more information about how you really do act. Make sure you use that.

Talk to a McLean Advisor about your asset allocation and how much risk you’re taking.

 


McLean Asset Management Corporation (MAMC) is a SEC registered investment adviser. There are many different interpretations of investment statistics and many different ideas about how to best use them. Past performance is not indicative of future performance. The information provided is for educational purposes only and does not constitute an offer to sell or a solicitation of an offer to buy or sell securities. There are no warranties, expressed or implied, as to accuracy, completeness, or results obtained from any information on this presentation. All investments involve risk.

The information throughout this presentation, whether stock quotes, charts, articles, or any other statements regarding market or other financial information, is obtained from sources which we, and our suppliers believe to be reliable, but we do not warrant or guarantee the timeliness or accuracy of this information. Neither our information providers nor we shall be liable for any errors or inaccuracies, regardless of cause, or the lack of timeliness of, or for any delay or interruption in the transmission there of to the user. MAMC only transacts business in states where it is properly registered, or excluded or exempted from registration requirements. It does not provide tax, legal, or accounting advice. The information contained in this presentation does not take into account your particular investment objectives, financial situation, or needs, and you should, in considering this material, discuss your individual circumstances with professionals in those areas before making any decisions.

The content of this publication reflects the views of McLean Asset Management Corporation (MAMC) and sources deemed by MAMC to be reliable. MAMC is a SEC registered investment adviser. There are many different interpretations of investment statistics and many different ideas about how to best use them. Past performance is not indicative of future performance.

The information provided is for educational purposes only and does not constitute an offer to sell or a solicitation of an offer to buy or sell securities. There are no warranties, expressed or implied, as to accuracy, completeness, or results obtained from any information on this presentation. The information throughout this presentation is obtained from sources which we, and our suppliers, believe to be reliable, but we do not warrant or guarantee the timeliness or accuracy of this information. Neither our information providers nor we shall be liable for any errors or inaccuracies, regardless of cause, or the lack of timeliness of, or for any delay or interruption in the transmission there of to the user. MAMC only transacts business in states where it is properly registered, or excluded or exempted from registration requirements. It does not provide tax, legal, or accounting advice.

The information contained in this presentation does not take into account your particular investment objectives, financial situation, or needs, and you should, in considering this material, discuss your individual circumstances with professionals in those areas before making any decisions.

 

McLean Asset Management Corporation (MAMC) is a SEC registered investment adviser. The content of this publication reflects the views of McLean Asset Management Corporation (MAMC) and sources deemed by MAMC to be reliable. There are many different interpretations of investment statistics and many different ideas about how to best use them. Past performance is not indicative of future performance. The information provided is for educational purposes only and does not constitute an offer to sell or a solicitation of an offer to buy or sell securities. There are no warranties, expressed or implied, as to accuracy, completeness, or results obtained from any information on this presentation. Indexes are not available for direct investment. All investments involve risk.

The information throughout this presentation, whether stock quotes, charts, articles, or any other statements regarding market or other financial information, is obtained from sources which we, and our suppliers believe to be reliable, but we do not warrant or guarantee the timeliness or accuracy of this information. Neither our information providers nor we shall be liable for any errors or inaccuracies, regardless of cause, or the lack of timeliness of, or for any delay or interruption in the transmission there of to the user. MAMC only transacts business in states where it is properly registered, or excluded or exempted from registration requirements. It does not provide tax, legal, or accounting advice. The information contained in this presentation does not take into account your particular investment objectives, financial situation, or needs, and you should, in considering this material, discuss your individual circumstances with professionals in those areas before making any decisions.