Portfolio Characteristics
Understanding Risk
“Beta” is a common measure of risk in the financial community. A beta of one means that if the market goes up by X percent (lets say 10%) your portfolio should go up by X percent (10%). A beta less than one protects on the downside but leaves a little on the table on the upside. A beta more than one will risk extra loss on the downside in an attempt to capture more on the upside.
With retirement assets downside protection is everything. After all if your portfolio drops by 25% you have to make 33% to return to even. If your portfolio drops by 50% you have to make 100% to return to even. In a 10% return environment, if your portfolio drops by 25% it will take you 3.3 years to catch back up. It will take over 10 years to recover from a 50% drop!
Some firms would like you to believe that you can earn 16% like returns from a Balanced Portfolio of stocks and bonds. This is not logical or correct unless they are taking excessive risk.
In 2006, stocks as measured by the S&P 500 returned 15.8%. Bonds as measured by the Lehman Aggregate returned 4.3%. If we assume a beta of 1.0, a Balanced Portfolio should have returned approximately 10%. To achieve a 16% return a portfolio would have needed a beta in excess of 1.6. This type of risk is NOT appropriate for retirement assets.
As a reference point, within your Balanced Portfolio, our most aggressive position is our Emerging Markets position which represents less than 1% of the portfolio. The beta on this position is 1.5. Imagine if the entire portfolio assumed the same amount of risk or more as this minor position.
Let’s say that the market goes down by 10%. If the beta of the portfolio was 1.6 the portfolio would plunge by over 16%! This type of portfolio could produce monthly returns anywhere between +11% and -15% in any given month.
The Beta for our portfolios are:
- Fixed Income Portfolio’s beta is 0.52
- Capital Preservation Portfolio’s beta is 0.73
- Balanced Income Portfolio’s beta is 0.80
- Balanced Portfolio’s beta is 0.84
- Balanced Growth Portfolio’s beta is 0.86
- Growth Portfolio’s beta is 0.88
- SGO Portfolio’s beta is 0.91
- Individual Equities beta is 1.00
Running a portfolio with a beta of over 1.5 is not a prudent manner in which to invest the irreplaceable retirement assets. This is just one of the many reasons why we limit our clients to no more than 20% exposure to our SGO Portfolio.