Working with people over the last three decades I have answered and asked thousands of questions about what they do and don’t want in their financial lives. Of course every single person has a slightly different set of priorities and expectations. Yet, they all have their own way of trying to execute their respective financial plans. I realize it is an advisor’s job to get people to talk about their biggest fears, risks and apprehensions. Of those mentioned most often there are four biggies: First and big time lately is how to deal with market volatility; second is outliving their income; third is getting organized; and fourth is having the right amount of information to make comfortable decisions. You know how people are worried about the wild moves in the market and the fact that they don’t know if they can afford to retire in the lifestyle they want. It is my job to put together risk management techniques that will allow consumers to live the life they want by getting them organized and explain things in the way they understand and feel comfortable. I think we call that trust! Over the next four months I’ll address each one of these fears specifically and how best to deal with them.
Volatility is certainly the big issue right now. We’ve recently seen 1,000 point Dow swings due to computer glitches, not to mention the almost 60 percent drop from November 2007 through March of 2009. Since then we’ve seen a 70-percent-plus ride up from those March lows. Put that on top of the worst decade for stocks in history and you’ve got to be concerned about this stuff! So do you continue to buy, hold and hope? My answer is no, there has to be some strategies that can help you gauge the risk and help you get in and out of the markets with some sort of discipline. A time tested strategy is to look at a chart that shows the 200 day moving average of your stock, index fund, exchange-traded fund or mutual fund. Technicians have been using this tool for more than 100 years and it’s not that difficult to figure out. You buy and hold onto your investment when the price is above the moving average and sell it when it breaks below the average (see the chart of the S&P 500 for the last 10 years to see how well it worked). An alternative is proper diversification. We’ve been using this approach for at least the last 60 years and it’s called MPT or Modern Portfolio Theory. The problem was that it didn’t work in this last bear market. Of course diversification will probably still work out just fine over 10, 20 or 30 year periods but in today’s interconnected world of finance and instant information, I’m not sure most people have the time horizon or patience to continue to do this anymore. I feel you need a tool to be more nimble with your investments, the 200 day moving average is a start. However, no strategy can assure success or guarantee against a loss.
I want to stress one big distinction and that is the crazy market gyrations are volatility, not risk. The biggest risks in life are not the ups and down of the market, but with not accomplishing the things you want in life. Unfortunately, you either need to time the market well or invest in more volatile investments in order to get a rate of return better than inflation after taxes. The ultimate risk question folks are asking themselves is whether they took too much risk in life, or too little?
Next month we will discuss how to plan so you do not outlive your income.
