Video Player - Training the Investor Brain: Risk Perceptions

Training the Investor Brain: Risk Perceptions

  • Date: December 23, 2016
  • Duration: 3min 6sec
  • Speakers: Robert Schmidt
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Transcript

Whenever we talk about risk, we tend to also bring up returns – or the reward we expect for taking risk.

Look at this framework for a chart – with risk along the X axis and return along the Y axis. What would you say if you were asked to literally draw the relationship between risk and return?  What would you create?

Maybe a straight line that starts near zero at the left and slopes upward to the right, suggesting that the more risk we take, the more return we get. But think about that for a moment. Is that always true? As the subheading on this slide says, “More risk doesn’t necessarily mean more return.” If that were always true, earning higher returns wouldn’t really be risky at all. 

What I’m going to show you next can help us think about risk and return in terms of potential outcomes.

With a low-risk investment, the range of potential outcomes tends to be pretty narrow – and positive. As we take on more and more risk, the chance of getting a higher return goes up – and so does the potential for losing money. At the extreme – if it’s really high risk we might make a lot of money or lose it all. This is a more realistic way to view risk and reward than a strictly linear approach.

Yet, there’s one key element missing from this illustration. And that’s time. When we add time to the picture, it literally turns it upside down.

Let’s take what people tend to think of as a “risky” asset class: US stocks. As the title of this slide suggests, the “risk” of investing in stocks tends to diminish over time. Stocks CAN be risky. No question. But look what happened to the range of actual outcomes over time. Over rolling 2-year periods, annualized returns for stocks were as high as 50% -- and as low as negative 50%. And remember, that’s annualized.

But when we look at rolling 5-year annualized returns, the range of outcomes was tighter. And that trend continued with rolling 10-, 20- and 30-year periods. This is why we suggest focusing on the long term – time and market history have been on your side. If we define risk as the chance of losing money, stocks actually got less risky the longer you stayed with them.

One more key point with this chart.

The longer you’re invested in stocks, the likelihood rises that you may earn solid returns. AND – the likelihood that you may experience a really bad 2-year stretch like the one shown on this chart goes up, too. So remember, the good 10-, 20- and 30-year numbers INCLUDE those poor 2-year returns.

Overall, we think stocks are an excellent way to build AND PRESERVE wealth over the long term. Sure there is price volatility in the short term, but there likely is room in almost everyone’s portfolio for some exposure to stocks to meet long-term goals.

Brandes Investment Partners “Training the Investor Brain” suite of materials are designed to help better manage our emotions when investing. Contact us for more information about any of these materials.

Add disclosure to transcript and video:

The S&P 500 Index with gross dividends measures equity performance of 500 leading companies in industries of the U.S. economy.

No investment strategy can assure a profit or protect against loss.

This material is intended for informational purposes only. The information provided in this material should not be considered a recommendation to purchase or sell any particular security. It should not be assumed that any security transactions, holdings, or sectors discussed were or will be profitable, or that the investment recommendations or decisions we make in the future will be profitable or will equal the investment performance discussed herein. Portfolio holdings and allocations are subject to change at any time. Strategies discussed herein are subject to change at any time by the investment manager in its discretion due to market conditions or opportunities. The Brandes investment approach tends to result in portfolios that are materially different than their benchmarks with regard to such characteristics such as risk, volatility, diversification, and concentration. Market conditions may impact performance.

The foregoing reflects the thoughts and opinions of Brandes Investment Partners® exclusively and is subject to change without notice. Brandes Investment Partners® is a registered trademark of Brandes Investment Partners, L.P. in the United States and Canada.

Disclosures

The S&P 500 Index with gross dividends measures equity performance of 500 leading companies in industries of the U.S. economy.

No investment strategy can assure a profit or protect against loss.

This material is intended for informational purposes only. The information provided in this material should not be considered a recommendation to purchase or sell any particular security. It should not be assumed that any security transactions, holdings, or sectors discussed were or will be profitable, or that the investment recommendations or decisions we make in the future will be profitable or will equal the investment performance discussed herein. Portfolio holdings and allocations are subject to change at any time. Strategies discussed herein are subject to change at any time by the investment manager in its discretion due to market conditions or opportunities. The Brandes investment approach tends to result in portfolios that are materially different than their benchmarks with regard to such characteristics such as risk, volatility, diversification, and concentration. Market conditions may impact performance.

The foregoing reflects the thoughts and opinions of Brandes Investment Partners® exclusively and is subject to change without notice. Brandes Investment Partners® is a registered trademark of Brandes Investment Partners, L.P. in the United States and Canada.