Investment Newsletter for the end of April, 2018

The market was decent this month and your portfolios have been recovering well from the first quarter’s mini slump. The Dow has recovered less well than you have. You are not invested in the Dow.

Today I want to discuss risk. Risk and returns are related. As one goes up, so does the other. It is not possible to have a risk free – high return investment. But, there is only a certain amount of risk that works for people. My 94-year-old mother cannot financially handle a two-year stock market crash. The money is needed now for assisted care. Risk is individual and changing over time.

I control risk several ways. I use mutual funds which are large collections of holdings and I allocate a significant portion to bond funds. Short-term bonds do not vary much with the boom and bust cycle of stocks. Therefore, a weighting towards short-term bonds will dampen the overall portfolio fluctuation. It means, however, that my portfolio allocation will not go up as much as the market when the market is hot. It also means my portfolio will not crash as bad when the market stinks. The particular weighting is specific to the client.

When the market is hot, clients often give me grief because of the bond weighting. Many of my competitors are nearly 100% stock. They will generally out-perform my portfolios in great markets. In bad markets, they lose clients. People’s memories are very short. In boom times, I will occasionally lose a client because “your returns are not as good as your competition.” My agenda is not short-term return. I am going for outperforming the market over long periods and is adjusted for risk. I have gradually built an investment practice with about $28 million under management from a starting place of zero. I still have my very first client.

Evaluating risk tolerance is tricky. I can easily put together or purchase a quantitative survey. Client x is 60 years old, with this much money, this much income, etc. The magic box then spits out an allocation towards bonds. The problem here is that there is an emotional component to risk. People react differently to stress and sometimes they lie even to themselves. I do not like treating everyone the same.

My solution to evaluating the emotional side of risk is to use a sensitivity analysis. This question sequence should be familiar to all of you.

Let’s say your portfolio goes down 10%. What are you feeling? Are you comfortable or freaking out? Now, it is down 20%. Same questions. What are you thinking? Now it is down 30%, etc.

My question sequence is attempting to judge emotional reactions to downturns. Most clients have a spot that hurts so bad they cannot stand it. I build portfolios by trying to make sure that spot does not happen in real life. Some clients still lie to themselves. My test is abstract and not in the emotional drama of the news cycle. Also, people change over time. I like to repeat the test each year. That change in risk, however, makes sense. Different ages have different emotional reactions, different cash flow needs, etc. Young people also have more time to wait out cycles.



Investment Fee Schedule

Rate Assets Under Management
1.44% Below $125,000
1.00% Between $125,000 and $750,000
.85% Between $750,000 and $1,250,000
.80% Between $1,250,000 and $1,750,000
.75% Between $1,750,000 and $2,500,000
.70% Between $2,500,000 and $3,250,000
.65% Between $3,250,000 and $4,250,000
.60% Above $4,250,000

A single rate is applied to the whole account. Compared to my old fee structure, under the new fee structure the cost for a $1 million account would be $500 lower per year and the cost for a $1.5 million account would be $1,500 lower per year. I will still waive personal tax return fees for accounts over $1 million. All services stay the same. I am just lowering my upper end fees. For accounts that are above $5,250,000, we’ll need to discuss a custom rate.

As I’m writing these to help my readers, I would be very appreciative of any input in regards to what I should write next. If you want me to write about a particular topic, please contact me. Please contact me if you would like to submit a post to my blog.

If anything that I mentioned above interests you, please consider downloading my free e-book. The book contains my thoughts on investment management and some information that I think everyone should know. You can also download it below.

E-Book Download

Questions for the comments

Did my newsletter make sense? Do you agree or disagree with what I said?

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