This is the first in a series of articles on defining real risk and how these definitions will help increase real returns in your portfolio.
First then, what is risk? Simple right, not as simple though as you may think. As an example borrowing from a recent article I wrote about currency risk, what, you don’t invest in currencies? Have you ever heard the saying that being in cash US dollar is being long the dollar? If not that is a defining point. Having money in an FDIC insured savings account is safe and risk free right? Let’s tie those two thoughts together with a real example. When the euro was first introduced it was trading around .80 cents to the US dollar, now you will need nearly $1.39 to buy that same euro. You would need a gain of nearly 70% to have simply stayed even in your purchasing power. That is some serious risk over the last 25 years.
Let’s consider then inflation over that period of time, understand of course the euro has also seen inflation so let’s think simply in terms of purchasing power in terms of the dollar itself for simplicity sake. Average inflation is good if it is between 2 and 3% annually. In FDIC insured “safe” accounts you will be gaining anywhere from .05 on the low-end to as much as .90 on the higher end if you are locking up in a CD. All safe investments for sure, but yet quickly falling behind in terms of purchasing power.
In this first article I am trying to accomplish one thing, that some of you must reconsider what risk really is. This is an article directed at sophisticated investors but all to frequently they are not seeing the most basic enemies of their wealth. When I do speak with accredited investors or their representatives I hear a too familiar phrase, “we are in wealth preservation mode” and not interested in looking at “risky” investments. When I suggest that is a good place, how are you accomplishing that goal in terms of real dollar value preservation? They are all to often mentioning the “safe” accounts discussed above.
If you want to stay in cash and be a dollar bull that is fine but do it with the understanding that part of your portfolio will be even with the true values. You are at an age where stocks and real estate are to risky but there are other alternatives to consider. There are ways to keep up with the effects of changing monetary values around the globe. If you are averaging 1% on your money, and you took 20% of that for alternatives that made 20% what is the effect? $1M times 1% is making $10k. $800k at 1% plus $200k at 20% is making $48k or 4.8 percent. If you goal is to truly stay even when considering inflation and the potential further devaluing of the dollar then the real risk is not doing anything. It has taken many years to develop our own views of what risk is, what this series of articles will do is help some of you ease a bit out of their comfort zone and face the realities of risk head on and accomplish their goals for the future.
Reduce the unseen risk and increase your real returns!