Take a look at the following chart*, which was published in a book I am reading called “Adaptive Markets” by Andrew Lo. Based on the performance you see here, if you were to invest your entire life savings into one of these investment vehicles today (at the end of each line), which one would you choose? I know there is not a lot of information here, but take your time when choosing.
My choice was Investment C. Investment A is consistent but the returns are low. Investment D has higher returns, but look at that volatility! Investments B and C seem to rise together, but Investment C does not have the big ups and downs of Investment B. Now lets revel the actual investments behind these letters with this chart*.
As you can see Investment A was Pfizer and the low return investment was US T-Bills. Investment B was the S&P 500 and Investment C, probably the most common choice, was the feeder investment fund for Bernie Madoff’s Ponzi scheme. This second chart has shown us how those different investments have performed. Pfizer and the S&P 500 have both increased in value. Any monies invested with Madoff are now worthless.
We all want consistent investment returns. Humans are risk averse by nature and we would prefer our nest eggs to grow at a healthy rate, but with as little downside as possible. The reality is that stock markets (and bond markets to a lesser degree) are inherently volatile. We have to take risk and accept volatility to earn a return better than “cash”. Risk can lead to losses, which is scary, but historically global stock markets have rewarded investors willing to take risk with returns significantly above cash. This is called a “risk premium” in stock market speak – its why stocks should earn more than bonds over the long run.
As we have seen in February 2018, the S&P 500 (and global stock markets) can be a wild ride. Historically the markets have paid investors for staying invested through bouts of volatility – its how we earn our “risk premium”. Was the recent sell off in the global markets too scary for you? You can easily lower the volatility in your portfolio by selling stocks and adding more cash/bonds. But this comes with a price. By doing this you may lower your portfolio volatility, but you may also lower your potential future returns. There is always a trade off! Lower risk equals lower reward. Ignore anyone telling you something different.
*Charts are from “Adaptive Markets” by Andrew Lo – you can purchase the book on Amazon here
**The above article is informational in nature only and is not a recommendation to buy or sell securities. All information is gathered from sources believed to be reliable, but neither Charles Brown nor Ausdal Financial Partners, Inc guarantees the accuracy of the information. All investments carry a degree of risk. Individuals should consult with their tax and investment professionals before making changes to their investment portfolios.
***Securities and Investment Advisory services offered through Ausdal Financial Partners, Inc, 5187 Utica Ridge Road, Davenport, IA 52807 (563)326-2064. Member: FINRA/SIPC. M.Brown and Associates and Ausdal Financial Partners are independently owned and operated