With investing, it's better to aim for base hits rather than swing for home runs, but it's also important to stay in the game.
Prior to the economic downturn of 2008, clients were eager to take investment risks. They wanted double-digit returns and appeared relatively unfazed by short-term fluctuations in their portfolios. I often had to explain to them the impact of volatility and portfolio risk and that it’s better to aim for singles and doubles rather than swing for home runs.
When I was illustrating a sample portfolio with 5%, 6% or 7% net return, one particular client wondered if he should take on additional risk to generate a higher return, even when his financial plan suggested that a lower return was more than sufficient to achieve his objectives. The focus needed to be on compound rather than average rate of return and that, in order to achieve a higher compound return, the key was to reduce portfolio volatility.
Even something as simple as using a basic chart to compare a $100,000 portfolio with huge yearly swings (aka homeruns and strikes outs) to one with more consistent returns over time (aka base hits) seemed to “hit home” with him, as well as many other clients, and helped illustrate the point.
However, since the market bottom of 2009, the game seems to have changed. The concern is less about convincing investors to go for base hits and more about persuading them to participate in the game at all.
U.S. stocks, as represented by the S&P 500 index, had their best quarter performance period since 1998. Yet net outflows from stock mutual funds have generally continued during the equity price upturn. JPMorgan Chase reports that bond flows exceeded equity flows by $35 billion during the month of February, and U.S .stock mutual funds are still suffering from net redemptions.
Although market contrarians view recent trends as a positive indicator of future stock market potential, they may be signs that fear of volatility, stemming from the 2008 drawdown, is playing a role in investor behavior.
Sitting in the dugout with a portfolio that includes too large a concentration in cash, bonds or dividend-paying stocks is also risky and may dilute the effectiveness of your investment strategy over the long run.
Tom Orecchio is a principal and wealth manager with Modera Wealth Management, LLC (“Modera”). Nothing contained in this blog should be construed as personalized investment, financial planning, legal, tax, accounting or other advice, and there is no guarantee that the views and opinions expressed herein will come to pass. Investing involves gains and losses and may not be suitable for all investors. Information presented herein is subject to change without notice and should not be construed as a solicitation to buy or sell any security or engage in any particular investment strategy.
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The problem that presently exists with “safe” investing through bonds is that yields are so low that they often represent a negative return after taking inflation into account. This has resulted in a broad search for yield, especially among retirees, which actually may run the risk of making a portfolio more volatile and less diverse as investors extend maturities and/or take greater credit risk seeking to obtain higher current yields.Another yield-seeking approach of late is to acquire dividend-paying stocks through the form of popular high-dividend exchange-traded funds. However, this may also compromise the diversification of one’s portfolio by overly concentrating equity holdings in a few stock positions.o, while the baseball analogy still holds true when explaining volatility, perhaps a caveat needs to be added: It’s better to aim for base hits rather than swing for home runs, but it’s also important to stay in the game.