Institutions are taking a risk-off approach – but how do you look at risk?
After months of protests, Hong Kong's rule of law has been pushed to the "brink of total collapse,” according to the Hong Kong police.
Fierce fighting between riot police and Hong Kong protesters continues to rage as anti-government demonstrations take a violent turn. Streets are littered with bricks, street fires are burning, schools are closing, tear gas is being fired, riot police are using rubber bullets and one young man was shot in the chest with a real bullet.
The violence in Hong Kong has clearly affected Asian markets and that has spilled over to markets around the world. Wealthy residents in Hong Kong are beginning to take their money elsewhere, global companies are thinking about their exposure to Hong Kong and investors around the world are taking a risk-off approach.
How Do You Think About Risk?
To be a successful investor, you need to evaluate risks. That means figuring out all the ways you are vulnerable – not just whether your portfolio is too heavily weighted in equities – and how you can combat the risks.
In his classic book, Against the Gods: The Remarkable Story of Risk, financial historian Peter Bernstein shows how thinkers through the ages have tried to mitigate their risk exposure, through insurance, mathematical modeling and asset diversification. The key is to define your risks. Once you do, you can address this vulnerability satisfactorily.
You must understand and plan for these three financial risks:
This requires you to choose the right portfolio allocation for your situation with a special emphasis on minimizing one of the great enemies of wealth – volatility.
A portfolio with an erratic return can hurt you. Suppose you want to retire in 10 years, and your holdings jump all over. By the time you leave work, they are badly diminished. Investors with large bond holdings believe they are buffered against the stock market’s whims. But if rates rise, bond prices fall.
Think about what other investment risk you might be facing: currency risks, country risk, political risk, etc. There are a lot of investment risks to think about.
Investors who sell in a market slump, fearing things will get worse, suffer in the inevitable recovery because they are out of the market. The best idea is working with an advisor to help modify your behavior so you don’t over-react to events. Emotional reasons earn a big part of the blame for investors underperforming the market. According to a study by research firm Dalbar, this gap was five to six percentage points below the market’s return. It’s the cost of letting emotions guide investing. The selling into a bear market and buying into a euphoric market that is all-too-common results is this under-performance.
With the continued advancements of the medical profession, Americans continue to live longer and longer lives. In fact, in the U.S. the average life expectancy is about 79 years. While this achievement brings many benefits, it also requires that you plan for a long retirement and the need to combat the ever-rising cost of living. Live long, ignore risk, and you may not prosper.
Talk to Your Advisor About Risk
As an investor, you know you should evaluate your risks. And too often investors think of risk only in terms of possibly losing money. However, in the investment world, risk is broadly defined as the probability that the actual return from an investment will be different from its expected return. Actual returns (making or losing money) are affected by a number of factors, and total risk is a measure of variation in return due to all sources. Talk to your advisor to make sure your investments are in line with your appetite for risk.