Like it or not, investing comes with its fair share of risk. Although we all would like to see our portfolio grow steadily for years to come, the reality of the situation is that every market has its ups and downs.
Stocks are in the middle of a 10+ year bull market, one of the longest of all time. Since the lows of 2009 – when the S&P 500 hit a dismal 666 – the market is to-date up more than 300%, putting its 10-year trailing return of 15% in the 94th percentile since 1880, according to Goldman Sachs. The typical 10-year trailing return is closer to 9%.
For many investors, it is the best of times.
But that doesn’t mean there is no risk. The basic concept of risk is the possibility of losing something of value, whether due to your own actions or simply chance. And right now, there is plenty that’s out of our hands. Global trade policies, the business cycle, etc. Any number of different factors could derail the market’s long run-up.
Fortunately, a lot of what most people think of as risk actually comes down more to their own risk perception than the actual, true risk of loss. These are the subjective judgments that we all make about the severity and probability of a risk, and they are not always accurate.
And that’s why we have risk management.
According to the Financial Industry Regulatory Authority, risk is “any uncertainty with respect to your investments that has the potential to negatively affect your financial welfare.” Dealing with these risks involves a multi-step process of identifying a potential risk, analyzing just how damaging it might be, and then coming up with a plan to mitigate its potential impact on your portfolio.
Naturally, all investments involve some risk, but there are ways to mitigate both macro- and microeconomic risk to your portfolio. And asset allocation is one of the simplest, and most powerful. Here’s how to do it…
Portfolio construction is all about weighting, balancing your investments across different assets so that some will provide you with good returns while others are lagging and vice versa. Don’t go all-in on a single asset class.
Think beyond the traditional options of stocks, bonds, and cash to include alternative investments and other asset classes. These types of non-correlated assets can help protect your portfolio in the event of a downturn in the market.
Even within your portfolio, it’s possible to use how much you buy or a certain asset to control your exposure. If you believe that, for instance, consumer products will be safer in the long term than energy stocks, it might be wise to put more of your assets into consumer products holdings vs. the other options. Or, if a certain sector starts slipping or showing weakness, moving out of the to some degree can help insulate you against losses simply based on the weighting of the holdings in your portfolio.
When stocks and bonds are more volatile, alternative investments can shine, offering protection from the volatile public markets while insulating investors for larger macro trends. For instance, art has long been one of the best investments of all time, returning 10.6% in 2018 while the S&P declined 5.1% in 2018. The Wall Street Journal even called art “the best investment of 2018.” Why? Because it is not correlated to the broader market. Even when stocks are whipsawing wildly, art and other collectibles appreciate steadily, simply because investors in these assets are driven by different, more long-term goals and they are less likely to buy or sell out of fear.
Masterworks is opening up access to top-tier, blue-chip art investments to everyone, enabling all investors to take advantage of art as a potential diversification tool for their portfolios. Here’s how to get started…