The Top 3 Questions to Ask.
Oftentimes when we meet with clients there are a few common questions or topics that tend to come up regularly - things that seem to be on the minds of many of our clients. Usually, it has to do with some event or circumstance that is relevant at the time. In 2022, that question has revolved around the idea of “should I change the level of risk in my investments considering what is happening in the market.”
Some clients are debating getting more conservative to avoid further drops in account value. Other clients are wondering if they would be well-served to get more aggressive wanting to “buy in” at a discount to experience faster growth when the market rebounds.
Whenever there is a significant shift in the market it is natural to wonder if the current investment strategy still applies.
No matter where or how money is saved or invested there is generally going to be some level of risk associated with it. If cash is buried in the backyard the location could be forgotten. If it’s saved in a bank only a certain amount is FDIC insured. If it’s used to purchase a bond, there is a time constraint and potential to receive less than full principal at maturity. If it’s invested in a stock the value of the stock could drop and result in less value when you need the cash. The list goes on and on, but a general rule of thumb is that in order to earn a higher rate of return more risk needs to be taken in one form or another.
When it comes to the stock market, the main risk is that the value of the investments could be less in the future than it is today. The riskier the investment, the greater the potential loss in the future. In order to answer the question we’ve been hearing lately— ‘should I get more aggressive/conservative with my investments’—it is important to answer some fundamental questions.
1.What is the Purpose of the Funds?
When investing in the stock or bond market, the main risk is a decrease in value from one time period to the next. If the purpose of the funds is safety, then choosing an investment that has the potential to decrease in value most likely would not be the wise choice. In this case it may be wise to reduce the level of risk in your portfolio. Similarly, the sooner the funds are needed the less willing you should be to risk a short-term drop in value. Dollars expected to provide income in the next 1-3 years should naturally involve less risk than dollars not needed for a number of years.
2. When Do I Need to Access the Funds?
The longer the dollars are allowed to remain invested, the more risk can theoretically be accepted, although it is not as simple as saying young investors can be more risky and older investors need to be more conservative. Realistically, even someone that has just entered retirement will not access 100% of their investments in the next 1, 3, or even 10 years. Some portion will be expected to fund the income needs of that retiree 20 or 30 years from now. So, in practice, it is possible that even a recent retiree would have the financial ability to add risk to a portion of their investment portfolio.
3. Can I Emotionally/Psychologically Endure the Potential Value Decrease Inherent In the Investment Strategy?
It is important to know yourself as an investor and consider how you would be affected psychologically if a more aggressive portfolio resulted in larger losses in the short term. If larger drops in value resulting from additional risk would cause you to make sweeping changes to the investment strategy—at potentially the exact wrong time—then adding risk may not be wise even if you are financially able to do so.
As with many decisions regarding your financial well-being, there is no one-size-fits-all solution to a major pullback in the market. A whole host of factors need to be considered when determining if a change in investment strategy is needed. This is where a trusted financial advisor can assist. In uncovering the goals and time frames you are working with, a trusted financial advisor can help you determine the proper amount of risk to be deployed in an investment portfolio which can be especially valuable in times of market volatility.
Sincerely,
Andy
Andy Anderson, CFP®
