Investors may not have learned from the market downturns of 2000–2002 and 2008 as much as we thought. According to a TIAA-CREF survey, more than half of investors (53%) think taking more risk in their investments guarantees a higher return. For an investor survey to reveal that a majority of respondents have such a lack of understanding of basic investment concepts is surprising. As an investment advisor who has shunned the word “guarantee” in any context it might be invoked, I would have expected more than half of the survey participants to have said something like “There are no guarantees in investing.”
The No. 1 mantra I have preached to my clients over the last 30-plus years has been “Keep a long-term perspective!” Yet this survey further revealed that 36 percent of respondents look to one-year performance as the most important indicator of an investment’s return, with an additional 16 percent looking to quarterly performance as most important. Forty-seven percent have purchased investments based on the prior 12-month returns rather than looking at performance over a longer-term investment horizon such as five or 10 years.
“It’s important to look at the big picture when evaluating investment performance. One year or one quarter is a short period of time when you consider that many individuals are investing for 30 years or more,” says Roger W. Ferguson, President and Chief Executive Officer of TIAA-CREF. “Fortunately, investors can avail themselves of a range of resources, including professional financial advice, which can help them make well-informed investment decisions and build portfolios designed to meet their specific financial goals, whatever they may be. While investors continue to grapple with the challenges of market volatility, it’s even more critical for them to understand key investment concepts around diversification, asset allocation, risk and returns.”
Another sobering result of the survey was that a whopping 71 percent of respondents believe they can “completely eliminate investment risk by having a diversified portfolio.” Of course, diversification across many asset classes is the linchpin of any investment strategy that seeks long-term growth with reduced volatility. But to think it completely eliminates risk is irrational. A well-executed diversified investment strategy, at best, will only moderate volatility and risk, not eradicate it.
So, in summary, a majority of investors, it seems, think taking more risk in their investments guarantees a higher return, A time frame of one quarter to one year is best to judge an investment’s performance, and diversification can completely eliminate risk.
So here is my suggested New Year’s resolution for you to consider:
– Understand that taking more risk can get both higher returns and deeper losses.
– A reasonable time frame for you to assess an investment’s performance is a minimum of two to three years, so choose wisely on the front end.
– Diversification merely moderates volatility, and while it definitely reduces investment risk, it certainly does not eliminate it.
Happy New Year!