Sunday, April 26, 2015
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Prepare portfolio with eye toward future

sievers column sig

By
From page C2 | March 02, 2014 |

Too often financial news purports to be about the future but is really just an account of the past. As a result, many investors project what has already happened onto an imagined future.

Consider a different way to frame this situation.

Investors, influenced by media focused on short-term events, will tend to focus most of their attention on what has happened in financial markets in the past month, week, day or even hour. When stocks have fallen heavily in price, for instance, this is routinely reported as, “More bad news for investors today . . . .” In fact, unless you plan to liquidate your portfolio that particular day, it is unlikely to be bad news at all.

The media could just as easily say, “Stocks went on sale today, as falling prices offered investors higher expected returns . . . .” If you are a long-term investor, the key issue is how your portfolio performs from now on, not what happened yesterday.

Investing is, and should be, about the future, not the past. Since the future is unknown, we should strive to manage the uncertainty by diversifying across stocks, sectors, asset classes and countries. While diversification does not eliminate the risk of market loss, to do otherwise is to take unnecessary risk.

The financial media errs also when it assumes the future is the same for everyone. In reality, our futures diverge depending on our age, family circumstances, jobs, incomes and other factors. Individual concerns vary widely from paying education costs to caring for aging parents to changing careers.

Just as financial objectives are different, so too the investment strategies for each of us vary. Some will want a strategy that delivers regular income; others will be more focused on capital growth. Some will be risk takers, others risk-averse.

It should be evident that if the future looms differently for each of us, risk is not just one thing. It is not just the volatility of the market day to day or a simple statistical metric that can be measured. Risk can be felt differently depending on your age, your dependents, the industry you work in, the country you live in, the currency you consume in and your accumulated assets and liabilities.

This is why you should evaluate the uncertain future not just from the level of the overall market, but from your individual needs. That is the role of a qualified financial adviser: to help connect each individual’s circumstances and needs to their goals and to help the individual make sound financial decisions.

We cannot control the future. We may try to quantify risks, but risks can vary greatly depending on the individual. In any case, there are other uncertainties that cannot be analyzed in terms of mathematical probabilities.

One possible response to future uncertainty is to speculate on a single possible outcome. The risk in taking that approach, apart from getting it wrong, is that we can end up acting on stale news or paying a premium to take advantage of news that is already in the price of a given security.

Another response is to stay highly diversified and to use the information in market prices to stay focused on dimensions of expected return.

This latter response doesn’t require speculation, forecasts or second-guessing the market. It just requires an understanding of what we can and cannot control. So while we can’t control the future, we can control the structure of our portfolios, we can ensure we are broadly diversified, we can manage fees and taxes, and we can regularly rebalance to ensure the risk allocation stays within our chosen parameters.

The future is unknowable, and how it unfolds has differing implications for each of us, depending on our circumstances and needs. While we cannot prepare the future for our portfolios, we can still strive to prepare our portfolios for the future.

Mark Sievers, president of Epsilon Financial Group, is a certified financial planner with a master’s in business administration from the University of California, Berkeley. Contact him at [email protected]

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