Ruminations on Risk

Last year we analyzed the portfolio of a prospective client who had very significant wealth -- more than all of our other clients combined. The client told us, and we agreed, that he had more money than he could possibly spend in his remaining lifetime. One of our recommendations in light of this fact was to invest his portfolio in low risk, fixed income securities. Why incur risk when you don't need to?


The client did not think much of our analysis or our recommended course of action. Why would he bypass the opportunity to earn big returns by investing in private equity placements, hedge funds and and other high stakes options when he could clearly afford to participate? From his perspective, he was able to withstand the risk. Taking the safe route just meant leaving money on the table.


Needless to say, the client did not choose us to be his advisors, and whenever his name comes up, the two of us just shake our heads and wonder how he could have ignored our good advice. Why take risks when you don't need to in order to reach your goals?


Clearly, we had a failure to communicate.

I've recently observed a similar disconnect in my personal life. With my youngest child leaving for college in the fall, I've realized it's important that my husband and I start doing more together than coordinating schedules and making sure someone has shopped. This weekend, I invited him to join me on a walk along a trail that runs near our house. Taking a long walk on the trail is one of my favorite things to do on nice days, but he declined -- he had work to do, needed to prepare for a trip the next day and was playing hockey that evening. Unless it was going to be a quick walk, he wasn't really interested.

I mulled this over on my long walk and concluded that my husband is just not a walker. This should not be news to me -- we've been together for more than 30 years and he has been in constant motion for most of that time. He wants to do it all, and pretty often pulls it off. He works long hours with frequent travel, plays ice hockey in an adult league, religiously follows several sports teams, regularly volunteers as a hockey coach and in a reading program for school children in D.C. He's truly an amazing guy -- but you don't get all of that done by walking.

I, on the other hand, am a walker -- literally and figuratively. I abhor stress and have structured my life to limit it. Of course when my children were young this was largely out of my hands (which surely contributed to my strong stress aversion), but these days I have managed to arrange my work schedule, my commute, even my meals in a way that keeps my stress level very low. I have built cushions into my schedule, so I won't miss deadlines or sweat out conflicts. Whenever possible I avoid activities that I find frustrating or just don't enjoy.


You might think that with such a cushy life I'd be happier than I have ever been. But, instead I am learning that sometimes stress is what makes me feel alive and truly engaged with the world. Rather than bliss, I'm feeling bored and somewhat useless. The activities I enjoy most these days are those that are stressful in the sense that they take me out of my comfortable routine and force me to adapt to new situations -- traveling is a great example.

I love traveling to new places, soaking up the culture and the history, and finding the local treasures--even though I hate flying and packing and dealing with airports. The adventure of discovering a new city is a payoff that far outweighs the inconveniences of traveling, and for some reason I even see the occasional misstep in the course of traveling (getting lost, missing trains, unfortunate food selections) as a part of the whole grand experience.


Looking back on my life, I also must admit that the heightened emotions of some very difficult times are memorable and cherished. The demands of three small children were overwhelming and exhausting at times, but there was an undeniable degree of excitement in surrendering all control of your life to the whims and needs of your offspring. That imposed randomness is missing in my life now.

Don't get me wrong -- I'm quite happy to be free to choose when I will be spontaneous, and don't wish to return to those past days of chaos. But I now see that eliminating too much stress from one's life can leave you feeling small and unfulfilled.

So I've come to understand why Mr. Not-a-client wanted to make some risky bets, even though it was unnecessary from a planning standpoint. Even more than me, he is more-or-less accountable only to himself -- no job, no young children making demands on his time, nothing that absolutely has to get done when he wakes up most days. Making his money grow is one of the only challenges remaining in his life. He wants the excitement of having a horse in the race more than the absolute assurance that his money will always be there for him and his family. And, though I understand a little better where he's coming from, I'd still give him the same basic advice -- don't take unneccesary risks with you family's money. Still, maybe I'd suggest keeping a small percentage of his money in a pool he could use for some riskier plays, just to satisfy his need for an adrenoline rush.


And in my own life, I'm going to make more of an effort to regularly step outside my comfort zone, and raise my stress level a bit. Perhaps I'll work a little harder to break a sweat and keep up with my husband-- if he can slow down occassionally to let me catch my breath.


Maybe we'll invite Mr. Not-a-Client to go bungee jumping -- just for kicks!

Annette Simon

Copyright 2009 The Money Dames

Alternative Investments -- Money Dames-Style

Has the relentlessly falling market got you wondering what to do with money you would normally invest? Are you leaving extra cash in your checking or savings account rather than adding to your retirement or investment account?

We continue to believe that the market will turn around and that it could happen fairly quickly. By waiting for a sign that it's safe to get back in, you risk missing out on the biggest gains; and missing just a few of the highest return days can reduce your overall returns quite dramatically.

Our prescription: Think about how much of the money in your investment portfolio you will need to pay for expenditures in the next three to five years, then set that amount aside in a money market fund or CDs. What's left in your account should be long-term money -- funds you will not be drawing upon for five or more years. This money should be invested in a diversified portfolio incorporating a moderate level of risk that allows it to outpace inflation but still lets you to sleep at night. If you are not planning to draw upon your investments for five or more years and have the ability to contribute to your accounts, it makes sense to continue to do so and to buy securities at what will in the long run probably look like bargain prices.

We've been repeating this mantra since the downturn began and stand by it as the most sensible course of action. But, many people have reached the point where they don't want to hear it anymore. Adding to accounts that seem to shrink on a daily basis is more than they can stomach. They are accumulating cash -- building their checking, savings and money market funds rather than put any more money into the bottomless pit the market has become.

If you find yourself in that camp, here are some ways to make good use of your excess cash until you feel safe getting back into the market:

• Accelerate your mortgage payments. Paying extra principal will reduce the time it takes to retire your loan and yields a guaranteed rate of return -- the interest rate on your loan minus the value of tax deductions (for interest you will not pay in the future) you are forgoing. Reducing your debt increases your overall net worth just as much as increasing your assets -- and it's a sure thing.
• Prepay tuition. Check with your child's college or private school to see if they will allow you to prepay for one or two years of tuition. Tuition increases have outpaced general inflation for years, and if you believe the market will continue to drop it makes sense to pay future tuition bills now rather than waiting for your education fund to shrink further. Our caveat on this -- don't pay too far ahead -- especially if your child is starting at a new school or not entirely happy with the school she attends.
• If you definitely plan to purchase a house, remodel, buy a car or other big-ticket item in the near future, it might make sense to dive in now. You'll have great bargaining power in markets that are starved for buyers.
• Invest in yourself. If you've been thinking of going back to school to improve your job skills or train for a new career, use some of your cash-on-hand to cover the cost.
• Remember to look for opportunities to harvest lossses in your taxable accounts. Sell losing securities to capture the losses (up to $3,000 each year can be deducted from income, the remainder can offset realized gains this year or in years to come). Invest in another, similar fund if you want to be positioned to participate when the market rallies, or keep the proceeds in money market or other stable asset classes if you can't bear the risk. Just remember that you're locking in losses when you sell in a down market and don't reinvest in equities or stocks.

And a final reminder: you should always keep enough cash on hand to cover at least six months of living expenses, more if your income is at risk or irregular. These suggestions are only for investors who have a reliable income source that leaves you with excess cash you would normally be adding to your retirement or investment portfolio. We are not endorsing an irrational spending spree or depleting your cash reserves to pursue the ideas above.

Above all else, be sensible and plan to return to regular saving and investing as soon as possible.

Copyright 2009 Money Dames