Risk... may be defined as the uncertainty of loss or profit and as you will see from the comments below much of our time is spent managing risk – hence our website address being www.riskandreturn.co.uk; I look at methods of controlling risk below.
Inflation (see March newsletter for definition) 3% - no action from Bank of England. Tax take doubles over last two decades from £93 billion to £187 billion with more being caught in tax net as personal allowance is frozen.
Risk Mitigation - Umbrellas and Ice Creams
Don’t keep all of your eggs in one basket – was something my granny was fond of saying. Today of course we are posher, and use the words capital allocation, diversification, correlation, &c. I still prefer the descriptive power of eggs and baskets.
The classic example is buying shares in both ice-cream and umbrella making companies. In dry years your ice cream shares would do well but your umbrella shares would not and in wet years vice versa; buying shares in both would mean that you would not have to worry about the weather any more, hence reducing this aspect of your risk.
Investments that behave like the umbrella and ice cream shares in the example above are said to be 'negatively correlated', that is they move in opposite directions given the same piece of news or market conditions. Investments that would move in the same direction given the situation outlined are known as 'positively correlated'. To reduce your risk exposure, you can pick investments with low or negative correlation.
Geographical diversification is also worth considering - there are currency related risks in making overseas investments but on the whole, we believe that these risks are by far outweighed by the ability to diversify from our small island across markets in the whole World.
Markets in early 2020 fell by an average of 25% with our average cautious portfolio falling also, but only by about one third of this amount; the counter to this of course is that when markets race ahead, we will not be in the front runners. We tend to adopt a tortoise and hare strategy in the hope that our clients will avoid heart attacks at times of market stress. As always it is important to investigate and choose the correct risk profile for your investments.
Driving to work last week I watched a pedestrian walk directly into a lamp post. The pedestrian concerned was not visually impaired, he was an addict and you have probably guessed the source of his addiction – his mobile phone. Phones are a rude and impatient instrument that demand immediate attention when they squeak, whistle or (in my case) play Bach’s Toccata and Fugue in D minor (Lon Chaney music). When a phone demands attention (they don’t seem to just ring anymore) people break off conversations and lose concentration on demand. Mobile phones are however an investment success story and one more convincing reason for investing in technology – Martyn often plays this mantra to me and I find it difficult to argue with him, although my ongoing conversion to technology has not yet caused me to collide with any lamp posts. From a diversification perspective technology makes our job more difficult due to its all-pervasive nature.