If you haven’t already read or listened to Part 1 of this series, I suggest you do so before getting into the below, as some of the references could otherwise be confusing. In that edition, we talked Boston (the band, not the city), their hit Don’t Look Back, Cadillacs, fund blowups, and why it’s important not to let negative past investment experiences cloud our judgment when it comes to sound financial planning. There is an appropriate level of risk to be taken in each situation, and not taking enough risk can be detrimental to a long-term plan. Picking up where we left off, let’s look at the opposite side of the situation. Here we go!
The risk of too much risk
There’s a person I’ve been in touch with over the past couple of years – let’s call him Bob – who is an older gentleman that did exceptionally well over the last decade investing in some very recognizable tech-stock names. In hindsight, it was easy to do: he bought the stocks, and they went up. Voila! We had many enjoyable conversations, but – try as I might – I couldn’t convince him that having $10M+ (all of his money) in a handful of concentrated stocks was, at best, inappropriate for his situation and, at worst, a terrible idea. One could certainly pin that failure on me, but we really did try to help, as David (Bahnsen) even joined Bob and me for a conversation. From my perspective, it was simply too risky, and he could have benefitted from some diversification to help protect at least a portion of that money, but Bob refused the guidance we offered. David had the correct read on the situation immediately, but I did check in with Bob from time-to-time and built a pretty good rapport with both Bob and his wife.
The gains in his portfolio were substantial, so reallocating the positions would have meant paying capital gains taxes – and Bob hated the idea of paying taxes. But here’s a question: What’s worse than paying taxes on huge capital gains in one’s portfolio? Answer: Watching those gains quickly evaporate. And that’s precisely what happened in early 2022. But what’s even worse than that? Not knowing WHY the investments were owned in the first place (other than “they always go up”).
It’s difficult to hold onto a stock or any other investment during severe volatility, unless there’s an associated long-term thesis. After all, we’re human, and we’re emotional. We need an objective framework to help us stay committed to long-term investment strategies during the most volatile times. Not having such a framework can easily lead to panic selling, emotional scarring, and ultimately being converted to one of the “too little risk” investors we discussed back in Part 1. The last time Bob and I spoke back in the spring, he was in full-on panic mode, considering selling his entire portfolio (then down 60%+) and going to cash because he “couldn’t take the stress.” Even then, he still didn’t want to accept help. I hope he didn’t sell and was able to participate in the summer rally that has significantly lessened the drawdown of equities in general.
A mixed bag
I’ll leave you with a couple of other reminders related to looking back and looking ahead:
- As we covered in The Ruse (Parts 1 and 2), looking back (past performance) is among the worst ways to choose liquid investment managers. Still, it may have some utility among the BEST Private Equity and Venture Capital funds (most people lack access to these). It’s tempting to choose managers based solely on their track record – but don’t do it! Instead, focus on an investment process that aligns well with your personal beliefs.
- Rather than expecting history to repeat itself, use it as a reminder to Expect the Unexpected, which we discussed in Alt Blend #35. One of our clients has recently come to terms with the fact that a direct VC investment he made (not through us) will essentially be a total loss. The good news? He sized it correctly. People in his network were close to the startup and asked for more money, but he only committed $50k – or about 1% of his $5 million net worth. Our expectation was (appropriately) that the investment would likely fail because those are the odds in startup land. The company was doing well until the Covid situation completely derailed the business plan. Did we know Covid was coming? Surely not. But did it fall into the category of “unknown unknowns” that led to suitable sizing of the position? Absolutely.
Look both ways
While we mainly need to be focused on moving forward in life, there is also much to learn from looking to the past, so sometimes we should look back (sorry, Boston). However, be sure not to get stuck in the traps of a) becoming so fearful it undermines an appropriate investment strategy, or b) relying on past performance to make investment decisions.
On a positive note, looking back in the right way can be an easy way to inspire gratitude. In case you aren’t reading it already, the “Against Doomsdayism” portion of David Bahnsen’s DC Today is an excellent resource for daily appreciation (and hands-down my favorite part of those writings – no offense to market movements, politics, economics, etc.).
And with future optimism in mind, it’s worth noting that the massive gas-guzzling 7-liter, 425-cubic-inch GM engine in the Silver Caddy generated less than 200 horsepower. You can now get more than that from the 1.5-liter VTEC motor in the 2022 Honda Civic SI. That’s nearly an 80% reduction in displacement (engine size), not to mention the Civic is light years ahead in performance, coolness, and fun factor. Embrace what’s to come. “A new day is breakin’, and it’s been too long since I felt this way.” Actually, it’s been about a year since I’ve felt this way. It’s sad to leave summer behind, but fall weather and football season give us some things to look forward to!
Until next time, this is the end of alt.Blend.
Thanks for reading,
Steve
