Some people might think this is the secret to financial success. Hoping for 30% annualized returns with your principal unscathed is the basic recipe for disappointment. They are fooling themselves. It is next to impossible to succeed using that approach – and it would not be their financial advisor’s fault or the stock market’s either.
Let’s Think About It
Risk and reward are integral parts of investing. So much so, there is a risk-reward ratio. You arrive at this by dividing your net profit (reward) by the price of your minimum risk. So, essentially, risk/reward ratios compare the expected returns of an investment with the amount of risk you must assume to earn these returns.
Experts say if the reward is persuasive enough, it might makes sense to take on the risk. But that’s pretty general. We need to absolutely know what the risk is and what it entails. You should always ask someone (or yourself) if taking the risk is really worth it.
In everyday life, wearing a seatbelt while driving is compulsory, isn’t it? And yet, many of us choose to drive without fastening our seatbelt for whatever reason. It is against the law, so this also suggests premeditation. We made the decision to break the law and, as a result, our decision exposes us to numerous unknown risks, which, oddly enough, we accept.
Nonetheless, taking on these kinds of risks has little upside or payoff, but more disastrous consequences if the worst were to happen.
Is It a Risk or a Calculated Risk?
A risk is taken unknowingly. Many times it is based on simple optimism that “it will all work out,” and often done without pre-evaluation or due diligence. Basically, anything could happen. Most who do this are willing to take whatever comes. The word “foolhardy” might come to mind as you read this.
A calculated risk is taken after careful consideration of risk probability, risk impact and reward. Certainly, a calculated risk is in stark contrast to a risk taken unknowingly.
Would you run across a busy, seven-lane interstate for a dollar? Would you do it if the payoff were a million dollars? If the reward is too small, it’s not worth the risk required to obtain it, is it? But if the reward were large enough, would you be willing to take on more risk – or a calculated risk – to obtain it?
Successful entrepreneurs are calculated risk takers, but risk takers are not necessarily gamblers or daredevils. This man was not a daredevil. Evel Knievel was offered millions of dollars to jump across 50 stacked cars at the Los Angeles Coliseum in front of a crowd of 35,000 and broadcast on national TV’s “ABC’s Wide World of Sports.” Would he have done it without a huge payday? He was a stunt performer and entrepreneur who attempted more than 75 ramp-to-ramp motorcycle jumps in huge arenas and outdoor settings packed with screaming fans.
Despite a lot of broken bones, Knievel never took a jump without performing extensive safety preparations first. He had an entire safety crew but made all final inspections and necessary changes himself. Knievel made a successful career from executing calculated risks – fundamental to sound investing and to defying death – knowing that without calculated risk there is no return.
Risk takers usually pay attention to the odds of obtaining their payoff. Entrepreneurs, focus on maximizing their chances of getting the reward by minimizing the risks involved. In this way, like Evel Knievel, winning entrepreneurs and investors can better be described as “risk avoiders” rather than “risk takers.”
Safety of Principal and the Return of Your Money
“It’s not about the return ON your money, it’s about the return OF your money.” This was a tried and true very popular opening salvo at financial planning seminars over the years.
So, how do you keep your principal safe?
If you are using one of the principal protection options, like Certificates of Deposits (CDs), Treasury Inflation Protected Securities (TIPS), Municipal Bonds or others, you are protecting yourself from catastrophic losses during regular market fluctuations. You’ll have safety of principal and the return of your money when the time comes.
How much have any or all of these increased in value … perhaps 1% or 2%? Yes. Probably. That’s not terrible. That’s what these investments were designed to do. They are not moneymakers. They were designed for safety and return of principal with little to no risk.
Many years ago, when CDs were really attractive, men and women years out from retirement would ladder their CDs to increase great returns down the line. They’d buy CDs of varying lengths with the goal of having the investments mature at regular intervals. This way, all of their money isn’t locked up at once and for the same stretch of time, making it possible to purchase new CDs with higher interest rates if and when they became available.
Are You Like Evel Knievel?
If so, you’ll want the facts, the possibilities and probabilities, and we will give them to you. We always have. Your Hefren-Tillotson financial advisor makes sure you know everything you need to know, and that all your questions and concerns are addressed thoroughly to invest in your future, your family’s, your friends, neighbors and work buddies.
If you, too, have questions or concerns, contact us at Hefren-Tillotson today. We would be happy to help and keep on course for success.