Wealth Management E-book
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The “don’t put all your eggs in one basket” mantra. Most investment advisors subscribe to the investment maxim that 80% to 90% of your overall, long-term investment return is based on the correct mix of ‘cash, fixed income, and equity investments’.
There are many other investment strategies, but the asset allocation model works with the average return for each type of investment, and over time, regardless of the short-term performance, most regress to the mean. For example, consider two investments in a similar market, we’ll use the Canadian equity market (think of your Telus, CIBC, CN Rail, etc). In the first year, depending on a number of variables, two Canadian equity mutual funds (which hold hand-picked collections of these big Canadian companies) may provide drastically different performance results. But as time goes on, the performance edge may go back and forth until eventually, the 10 or 20-year averages are only marginally different.
This is why the underlying asset class chosen (Canadian equities in this case) is more important over the long run than is the selection of a specific Canadian equity fund.
If you ever worked with an investment advisor to make an asset allocation plan, you’ve probably been questioned about several things:
- When are you going to need this money?
- What is your risk tolerance?
- How old are you?
- How much do you make?
Advisors ask these questions to try and ensure that the recommended investments best fit you as an individual. Where we go wrong as investors is that after the plan is completed and the various investments are purchased, we want to see how good they are. So we watch them. Now you’ve just told your advisor that it’s going to be ten years before you need that money, but darn it, it’s dropped 10% over the last three months!
So you go to your advisor with the intention to sell out of this bad investment he sold you and buy the investment your neighbor bought which is up 15% in the very same market. This is an emotional reaction.
From your point of view, your reaction is justified; you invested intending to make money - not lose it. Your friend’s advisor is obviously much better because he’s making money. What we lose sight of here is your time horizon, and the underlying markets that both you and your neighbor are invested in. Remember, you’re not alone. We also find it quite painful to look at our portfolios during a down- turn or bear market. It’s only the years of education and experience in the field that prevent us from selling everything and burying cash in the yard. We deal with market downturns by reminding ourselves that we’re correctly allocated and then largely ignore the portfolio (even though it’s our job to look…)
But we’re getting ahead of ourselves here. Before we even look at investing, we need to find the money to invest, and that brings us to cash flow.
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