Diversify to Minimize Risk
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After the beating most of us took in the markets last year, it’s tempting to stick our money in U.S. Treasuries that yield little or nothing in the way of returns.
But, while fleeing to the safety of Uncle Sam may seem like a safe bet, it’s a losing proposition when you factor in the average U.S. inflation rate of 3.43 percent per year. In other words, the $1 million you put in Treasuries today might only have about $713,730 in purchasing power 10 years down the road. Hardly the best business decision.
That’s why, over the long term, most financial planners believe it makes more sense to invest your money in a diversified portfolio of stocks, bonds, real estate and alternative investments that minimizes market volatility and risk. While this won’t eliminate the possibility of a year like 2008, when just about every type of investment took a hit, maintaining a diversified portfolio (as opposed to putting all your money in, say, gold or real estate) virtually ensures that you and your portfolio will live to fight another day.
For most of us, however, executing a strategy like this is easier said than done. We entrepreneurs are generally too busy running our companies, drumming up business and putting out daily fires to spend much time picking stocks or following what’s happening in the foreign currency markets. That’s why we generally leave it up to our money managers to be our financial quarterbacks.
Harold Evensky, president of Evensky & Katz LLC, a wealth management and financial planning firm that advises executives, professionals, business owners and other high-net-worth individuals, suggests the following strategy: “Begin with a split between fixed income and equities, then branch out and diversify in the equity universe between market factors like small cap and value stocks, then diversify between domestic and international. The next step would be to add real estate and commodities. Alternative investments, [like hedge funds], can also play a role.”
Of course, even the most highly diversified investment strategy should take into account the individual investor’s age, family needs and risk tolerance. For example, investors in their 70s may want to add annuities to their portfolios. Says Evensky, “With the advent of ‘longevity insurance’ products, annuities may also play a role in the portfolios of younger investors.”
Another important consideration–especially for entrepreneurs in their 30s, 40s and 50s who are still actively running their businesses–is to make sure your investment portfolio offers sufficient liquidity. While this may diminish your bragging rights at the country club, you’ll be thanking yourself later that you’ve got the cash to ride out the storm.
“Worst-case scenario,” Evensky says, “is if your personal investments remain when your business collapses, you won’t be forced to join the bread line and will have the ability to start again without worrying where your family will get its next meal.”
The information contained herein is provided for informational purposes only and should not be relied upon in making investment decisions. Before investing, you should always consult with a licensed investment professional. Past performance of investments discussed in this column is not an indication or guarantee of future performance.