How Much Risk is Too Much?

27
Oct

Markets took most of us by surprise recently when the S&P 500 momentarily wiped out the year’s gains on October 15. Journalists and pundits sought to explain the intraday sell-off and volatility, blaming Ebola fears, economic weakness, and uncertainty about the Federal Reserve, among other things.

Articles are still being published analyzing the spike in volatility and drop in prices on that day. While there may be many clear and present reasons for the market freak-out, the human factor in markets can pretty much guarantee that returns will always be impossible to predict with any real accuracy. If you aren’t comfortable with uncertainty, days like October 15 might be enough to make you swear off financial markets for good.

Studies show that women tend to be more risk-averse when it comes to investing, which can hurt them financially. A certain amount of risk is necessary in order to earn returns that can grow the type of wealth we will all need in retirement. Women tend to save less for retirement, and live longer than men, which ultimately means that twice as many women than men end their lives below the poverty line.

While the decision of “How much risk is too much?” is a personal one, investing requires a certain amount of risk no matter what. However, there are ways to not just help mitigate risk and encourage the odds to fall in your favor, but also to gain a greater understanding of markets and investing, which helps to manage the fear of uncertainty.

We offered the following “5 Keys to Smart Investing” back in the summer, and thought it might make sense to run it again given the recent crazy market gyrations. Best of luck out there!

1. Find YOUR Expert – It’s important to know the market and understand the economy so that you can trust your instinct when it comes to investing. However, you do not have to be an expert. We all have our areas of expertise, and you don’t have to be an expert in all things. But if you’re not an investment expert, you may want to work with someone who is. When you do look for an expert, find one who provides what you need — a style that is comfortable for you and all the information you want. This relationship is a very important one, so make sure you feel good about it, and don’t hire someone until you do.

2. The D-Word – The D-word in investing is diversification. The concept of diversification follows the adage, “Don’t put all your eggs in one basket.” The underlying idea is that all investments will not lose value at the same time. Diversification can happen within asset classes, for example, you can diversify among types of stocks like large-cap and small-cap, and varied sectors like technology and health care. Diversification also happens across asset classes, meaning investing in stocks, as well as bonds, real estate, and other asset classes.

3. Time, Time, Time – Time is a huge asset when it comes to investing. Not only does time allow you to benefit from the power of compounding — earning returns on returns — it allows you to ride out market cycles. Markets don’t always go up, and they don’t always go down. They do both, and timing the market has proven to be difficult. But if you can leave your money invested for a long period of time, you have greater potential to ride out the down cycles and grow more wealth.

4. Cost Management — When you work with an expert, whether it’s someone who manages money for you personally, or manages a mutual fund that you invest in, there will be costs involved like commissions and  expenses. These costs are how money managers get paid. But costs vary, and they should relate to the value the expert or fund is providing. So, if a manager or fund is expensive but their performance is not good, it’s a low-value proposition. Remember — you are not making money for yourself until your investment gains have covered the costs of that investment.

5. Education and Engagement – Education and engagement with your  money in all areas is critical. For investing, it is important to make sure you educate yourself on an ongoing basis, including self-education through books and media, or formal education through classes, or working closely with an expert. Engagement means monitoring your money, the markets, and the economy, and staying in touch with your financial advisor if you have one. It’s important to understand what is happening in the world, and how it is impacting your money.

 

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