“Are you a thermostat or a thermometer?” — Martin Luther King, Jr.
Question: During the Great Recession, my husband and I had losses in real estate and the stock market. While we’re still “okay” and have sufficient assets for a comfortable retirement, we disagree on how much risk to take with our portfolio. Can you help?
Answer: Your situation isn’t uncommon. The desire to recoup losses is human nature. The problems arise when people think increasing risk is the way to recover. Before deviating from your current financial plan there are two important questions to consider prior to taking on additional risk: “What are the trade-offs?” and “What are our needs?”.
Are you a thermostat or a thermometer?
Thermostats regulate and increase efficiency by keeping temperatures level and steady. Thermometers, on the other hand, measure and reflect climate changes. The analogy here is that financial planning is like using a thermostat to even out finances over time. When approaching retirement, it is recommended that financial risk be reduced. Steady income and cash flow derived from investments is generally more comfortable than pushing your portfolio to extremes and reacting to continuously changing circumstances. This is why having a plan in place is so important.
Unfortunately, the “Great Recession” was nondiscriminatory in causing emotional and financial damage. A series of unfortunate circumstances, events and decisions decreased net worth for many. The non-technical term we use to describe investors wanting to get back to where they were before the crisis is “get-evenitis.” The Las Vegas term is “doubling-down,” and this usually doesn’t end well. Looking back and trying to create what was is often counterproductive.
A Whale of a Loss
Individual investors aren’t the only ones who experience “get-evenitis.” Bruno Iksil, known as “The London Whale” for the size of the trades he placed for JP Morgan, lost at least $6.2 billion for his firm while hiding trades and the extent of the losses. Bruno gambled big and lost big. At Barings Bank, another trader, Nicholas Leeson, experienced significant losses and tried make it up by taking unauthorized and extreme risks. Nick ultimately lost $1.4 billion and caused the demise of the bank.
Bruno and Nick may have felt that they needed to take excessive risks to keep their jobs. As an investor contemplating your future, ask yourself if the risk is worth the possible reward and if you can adjust your needs to the current reality.
It was what it was
In most households, the Chief Financial Officer (CFO) may feel responsible for past losses and want to take on more risk than is appropriate or necessary to recover what was lost. Academic studies site that gender, marital status and personal experience influence risk taking behavior. As you may expect, single males are the No. 1 risk takers, and that explains why they have the highest car insurance premiums.
In contrast, single females typically have the lowest risk tolerance, although this will depend on overall economic status. Higher net worth single women will typically take on more risk, and married men fall somewhere in the middle. I like to avoid generalizations, but men usually act as CFO and are the ones asking about higher risk investments. When this happens, the direction of our discussion depends on several factors, including actual needs, risk tolerance levels, the couple’s health condition, whether they anticipate any inheritance or transfers of wealth, and of course a thorough review goals, all assets and any debt.
Going forward, the keys to success are communication and, of course, forgiveness. What’s past is past. Take an honest look at what current needs are and weigh them against the potential of existing assets and sources of cash flow. Acceptance of today’s reality is the first step towards resolution and when quality planning may resume.
What is Success?
Success at age 16 might be having a car, a part-time job and a date on Saturday night. At age 22, the goal may be finding a better job to support your lifestyle. At age 30, supporting a family and purchasing a home may be the objective. As we approach and enter retirement, adequately funding a desired level of income to meet our needs with peace of mind, and to perhaps leave a legacy is typically the objective. Whatever your definition of success, it is subjective, uniquely personal and changes shape over time.
Set the tone for your present reality, abandoning pride, ego, regret and “get-evenitis.” Only you and your spouse can determine how much risk is appropriate to match your comfort levels.
Have the discussion and don’t be afraid to ask for help from an objective third party. Stay focused and invest accordingly.
This information is general l in nature and is not a recommendation of any particular investment. There is no guarantee any particular investment strategy will be successful. Opinions expressed herein are those of the author and subject to change at any time. Consult with the appropriate legal and tax professionals for advice on these matters.
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This article provided by Darcie Guerin, CFP®, Associate Vice President, Investments & Branch Manager of Raymond James & Associates, Inc. Member New York Stock Exchange/SIPC 606 Bald Eagle Dr. Suite 401, Marco Island, FL 34145. She may be reached at 239-389-1041, email firstname.lastname@example.org Website: www.raymondjames.com/InvestmentInsights