The Importance of Defense
The news is frightful. The economy is in the doldrums. Europe is crumbling. The markets are up 4oo one day and down 400 the next. Thoughts of 2008, when venerable institutions, Lehman Brothers and Bear Sterns, — remember them? — fell like dominoes play in the minds of investors. There are never any certainties in life or in the markets for that matter, but seriously, what is an investor to do?
Three words….Defense! Defense! Defense!
Defense is not only important for success on the court or ball field but also on the playing field of investing as well. How many investors wish they could do 2008 all over again? Of course, 2008 marked the second bear market in 8 years, and many investors suffered losses to their portfolios exceeding 40%.
Why is defense so important when investing? The math is simple, and this is all you need to know. Say your portfolio incurs a 10% loss. To make back your losses, you need to gain 11%. Very doable and very reasonable. Now your portfolio incurs a 20% loss. To get your portfolio back to even, you need to score a 25% gain. However, there is one problem. Gains like that don’t come along too often. Since 1973, the SP500 has gained greater than 25% (in any one calendar year) only 3 times. Get into a 40% loss like most investors did in 2008, and you will need a 66% gain just to break even!! Needless to say if your portfolio suffers extreme losses, it will be a long time before you are made whole again.
Fortunately, when it comes to investing, playing defense is relatively easy. Unfortunately for investors, they usually don’t think of defense until their portfolios have suffered those crushing losses. So what can you do to play better investing defense?
Here are 4 steps you can implement right away. The first and probably best thing you can do for your financial health is to have an investing plan. Our lives are busy and complicated enough, so having a professional financial advisor craft and execute a plan for you is essential. It is worth the money. Successful endeavors usually require discipline and skill, and investing is no different. The second thing you can do is to be diversified in your investments. Don’t put all your eggs in one basket. The third step is to be data centric in your approach. Avoid the water cooler tips and do your homework from the many credible resources on the internet. Fourth, always question the prevailing dogma and never believe that “this time is different” because it usually isn’t.
For many investors, playing defense is akin to sacrificing gains. Academic research and history tells us that you can construct winning strategies that play both offense and defense. You don’t have to sacrifice rewards to control your risk. From this vantage point, successful investing starts with avoiding a hole that you cannot get out of.
So put your game face on. Knuckle down. And play some investing Defense!