Maximizing an investment portfolio is the most important thing to the majority of investors. However, Cloud 9 goes in the opposite direction. We support portfolio optimization over maximization.
Portfolio maximization is the process of making investment decisions in order to earn the highest rate of return. It generally takes risk into account, but accepts it in return for profit. Banking on the common phrase, "high risk=high reward", maximizers' ROI fluctuate in step with market volatility. Only actively managed funds come out positively when putting its first priority on making the most money.
On the other end of the spectrum, portfolio optimization, does its best to perform out of step with market volatility. The key principle behind this style of investing is to make the most profit while taking on the least amount of risk. Historically advisors that manage their clients' cash using optimization, annually earn less than maximizers. But the overall return is a different story. For example, advisors who bet strongly on the high-earning sub-prime field saw their earnings overshadowed by their recent losses. Optimizers were able to minimize their losses by only using investment vehicles that are low in risk but still maintain a moderate return. A little fluctuation is substantially better than a proverbial "tidal wave" sweeping through your portfolio every ten years; potentially wiping out all earning gained through previously outperforming the markets.
Truth of the matter is: every investment(including savings accounts) decision involves risk. Optimization only serves to lower that risk.
The reason we so adamantly support portfolio optimization is simple. Our mission claims that we want our clients' money "to work for them, not the other way around." The mission says it all...We want our clients' money to experience growth during the long-term, while always trying to minimize losses(even in down markets). Even though Cloud 9 consultants do not manage our clients' money, we still apply portfolio optimization theory to our investment consulting services whenever applicable.
This was a well written succinct article. I am in total agreement. I'd like to take this concept a step further by asking a question. Why it is that so many folks have to put their retirement plans on hold, whenever the stock market corrects itself? If that's the case, then these folks aren't in their optimal portfolio.
ReplyDeleteI think that the greatest risk to a persons financial health is the amount of debt he has. Here's what I mean; when a person gets out of debt, he lowers his monthly payments. Lower monthly payments equate to a smaller retirement nest egg need. A smaller nest egg requirement lowers the amount of risk that a person has to take in order to grow his assets. This risk might even be lowered to the point that the person requires only the minimal return of a savings account.