The torrent of mid-year market commentaries on 2020’s bipolar extremes have been coming at a breakneck pace. The general theme has been how quickly global markets sold off and came back – even as economic and sociopolitical headlines continued to stoke bonfires of ongoing upheaval.
And the year is only half over.
We’ve seen comparisons to Rip Van Winkle, who could have slept through the extraordinary turmoil and awakened in June with only minor changes to his 60/40 stock/bond portfolio.
So, what’s it going to be for the rest of 2020? As always, with respect to your investments, we have no idea what to expect as an encore through year-end. Instead, we would like to reiterate a few key points that illustrate exactly why we invest the way we do. In an article ( https://www.aspire-planning.com/blog/2017/6/5/how-do-you-invest-our-money-aspires-investment-strategy ) from three years ago we stated:
“Our strategy in constructing your portfolio begins with an evaluation of two factors: your goals and your tolerance to assume future risk. Knowing these factors is necessary in putting together a coherent portfolio that maximizes the chance of achieving your goals. The portfolio does not exist in a vacuum. It is there to provide the funds when you need them for your goals.”
A really interesting perspective that we’ve drawn from years of experience is measured in the first sentence of the quote above. What we know is that our feelings about financial goals and our feelings about risk tolerance often times change when we experience periods of massive stock market volatility. However, when given risk tolerance questionnaires, the results are very similar across many years and both stable and unstable investment environments. That is, conservatively-natured investors tend to remain conservative, and aggressively-natured investors tend to remain aggressive regardless of market conditions.
For example, I looked at several clients’ risk tolerance survey results from several years back, and again at the same clients results of whom we’ve surveyed more recently (and importantly after the coronavirus sent markets into a tizzy). Keep in mind that in our surveys, we ask a series of situational type questions, but at the end of the survey we ask clients to guess where they will end up along the conservative-to-aggressive spectrum. While the survey results did not change significantly, the clients’ guesses of what their risk tolerance would be was lower. What we can infer from this is that the shock of severe and unexpected market declines in panic makes us naturally more sensitive to risk and typically less aggressive. This is precisely what makes successful investing so difficult for most people. We have to resist the urge to change course during times of extreme perceived uncertainty. This is harder than it seems because we are fighting our natural instincts. If, in our minds, we sense lions crouching in the grass, every tree stump or clump of waving grasses becomes a lion whether accurate or not.
To further compound stress over longer periods, we commonly see financial goals inflate, retirement ages decline, and overall spending increase during good times. During times of declining markets and/or high volatility, we see the opposite. And with the clients that are brand-new to us, we usually see these extremes tested more frequently. This is natural, but not necessarily prudent. If, in good times we become accustomed to spending more and expecting to retire earlier, it’s going to make the reality of a changing course during bad times incredibly difficult to tolerate. This is why we use a basic, four step process of investing our and our clients’ money:
First, we assess your ability to tolerate risk. Remember that risk means different things to different people across different spans of time. If you have high risk tolerance, you may be willing to see the value of your portfolio drop 25% over a few months and not let it change your course of action. If you are risk averse the above situation would invariably force you to make emotional decisions that would be likely to harm your future returns.
Next, we choose an asset allocation target for your portfolio. The asset allocation decision is important in that it drives what your expected returns and level of volatility will be in the portfolio. The asset allocation decision not only reflects our clients’ ability to tolerate risk, but should align well with your long-term financial goals. For example, if you can achieve your financial goals by holding a portfolio of 50% stock and 50% bonds, then that would be prudent allocation to hold. Of course, adjustments need to be made throughout your life, but, the risk to reward ratio should remain fairly constant.
The next step is to decide where to place each asset. For example, most people have tax-advantaged accounts such as IRAs, 401(k)s, etc. as well as taxable accounts such as regular, individual brokerage accounts, joint accounts and trusts. Putting a high income-generating asset like a real estate fund or high yield bond fund into a taxable account might be less profitable (think higher taxes) than if we put it into the tax-advantaged account.
After placing trades and implementing your target portfolio, we continually monitor and rebalance as necessary. This is a vital ongoing step. At Aspire Planning Associates, we routinely monitor and rebalance your portfolios. Decisions are made by an Investment Committee, who regularly discuss and debate best ways to maximize return and minimize risk of investments. Many of our clients greatly appreciate having their “personal Chief Investment Officers” watching over their investments and providing direction on their behalf.
You’ll notice that the four-step process above does not include shifting allocations based on predictions. As we have seen, especially over the last few months, even the best, most highly regarded “experts” make inaccurate predictions quite frequently. The best way to avoid making inaccurate predictions is to not make them at all. The Wall Street Journal has reported on young, do-it-yourself investors exhibiting massive increased interest in opportunistic day-trading, and alternatives such stock options and futures markets. Evidence suggests you’re better off patiently participating in efficient markets as described above, rather than trying to “beat” them through risky, concentrated bets. Over time, “playing” the market is expected to be a losing strategy for the core of your wealth.
Could you use even more insights on how to effectively invest these days? Please reach out to us any time. We’d be delighted to help you invest in a portfolio tailored to your particular desires and circumstances.
Be well!
