Price of risk management and is it worth it?
More investors are evaluating the cost of investing. This can be seen as investors have been replacing their costly mutual funds for low-cost exchange-traded funds (ETFs). Vanguard and BlackRock, the two largest ETF companies, pulled in a record of $600 billion over the last year^1. It should be noted that this is a time where the stock market has reached record gains and volatility is almost nonexistent. So, I would agree with these investors that ETFs and other low-cost investment solutions are the way to go. But only during a bull market.
The market will one day enter into a corrective phase. It will happen as history has shown us time and time again. A not so recent, prolonged bull market, since 1982-2000 the S&P 500 gained 1,100%. It then declined 49% over the next two years. For an analysis of the current market see my blog from 12/27/17.
So what is risk management and why is it important?
When markets turn so will your portfolio. ETFs, indexes, stocks, and anything else “passive” will get hit with the same voracity as the market. And there will be nobody there hitting the breaks or implementing alternatives. It’s the art and science of risk management that attempts to improve performance and reduce downside risk. This is usually done by means of asset allocation. Nobel laureate, Harry Markowitz, in 1990, established that a diversified portfolio will reach the same long-term gains as the index, say, S&P 500, with a lot less risk. Imagine keeping a higher relative value of your portfolio while markets slosh sideways or correct for months (or years) at a time. Ask yourself if that would be valuable to you. Asset allocation can be applied in two forms:
Strategic asset allocation: This approach is the most common risk management strategy. You invest in many different things. This could include stocks, bonds, real estate, and commodities. The investment manager may overweight an asset class believed to outperform.
Tactical asset allocation: This approach actively navigates your portfolio through markets and can be more responsive to market changes and shocks. The investment manager may monitor markets and may make portfolio changes more often.
The cost of risk management involves hiring an investment manager. You may be asked to pay trading commissions or a percentage of the account value on a monthly or quarterly basis.
At Eureka Wealth Management, I bring 18 years of money management experience and use strategic and tactical asset allocation strategies with your portfolio. Unlike most firms, I don’t charge commissions as this removes a very important conflict of interest. The investment manager’s primary purpose is to provide “alpha,” an investment term used to describe the outperformance of an index. Semi-annual investment reviews are to report alpha, the rate of return, and recommendations for improving the portfolio. This relationship also helps you stay on track toward your goals and can help implement tax strategies with your investments. Determine if risk management is right for you by calling (760) 537-0791 or by visiting eurekawealthmanagement.com.
Sources
^1 Financial Times: “Record year for BlackRock’s ETF business in 2017” Jan. 3, 2018 (link)