Everyone knows the three most important factors when investing in real estate: location, location, location. But what about your stock and bond investments? What are the three most important factors when choosing an investment advisor? Results, Results, Results.
In 2005 Fidelity Registered Investment Advisor Group conducted a study with HNW Inc. on wealth and investment advice. They questioned high-net-worth (above $1 million) and ultrahigh-net-worth (above $5 million) investors, about advisors and their advice. Then HNW interviewed the advisors themselves to complete the study. The results of the study illuminated a disparity between advisors and investors regarding value, advice, and performance.
When asked which was most important, portfolio performance or the client relationship, the vast majority of advisors, 80 percent, said the quality of the relationship was the most important factor.
When the high-net-worth investors were asked this same question, 79 percent deemed that the portfolio performance is most important factor. According to high-net-worth investors, results really do matter.
It’s important to have a quality relationship with an advisor, but isn’t that just the bare minimum? After all if you are not comfortable with an advisor why would you let them manage your money?
They have it all wrong. Most investment firms stress the importance of “educating” their clients on the different investment options. Once again, education is important, but as is that what you are paying for?
What would you rather have a deep knowledge of modern portfolio theory or a positive return in a down stock market? (If you chose the former you can dazzle all your friends at your next cocktail party!)
The results of the survey suggest that advisors seem to be too focused on the features of the client relationship while the investors are looking for the benefits. It appears that investment results really do matter. After all, isn’t that what you are paying for?
Killing poor performance. If you want to receive good performance, you need to eliminate poor performance. And the root-cause of poor performance is losses. No kidding you say; and the root-cause of dying is death! But I’m serious. If you control your losses you will control your portfolio’s performance.
So how do you control losses? You control losses by having an exit strategy. That’s right…an exit strategy. Highlight it, cut it out and tape it to your mirror. Without an exit strategy how will you know when to cut the losers in your portfolio or lock-in a winner’s profit? Nothing goes up forever. Therefore, it is imperative to know when to take your chips off the table.
Warren Buffett once said that there are only two rules to investing. Rule #1: Don’t lose money. Rule #2: Never forget Rule #1.
POP QUIZ: If your portfolio loses 25% of its value this year, what return would you need next year to break even?
Investment Year #1
* Starting Value = $100,000
* Investment Return = -25%
* Ending Year Value =?
$100,000 x (1-25%) = $75,000
Investment Year #2
* Starting Value = $75,000
* Investment Return =?
* Ending Year Value = $100,000
($100,000 -$75,000) / $75,000 = +33.33%
Did you get the correct answer? If you lose 25% of your portfolio, it takes a 33.3% return, to break even. If you lose 50% of your money you need a 100% return, just to break even! That is why it is critical not to lose money.
The main reason so many investors lost money in the last down market is that they, or their advisor, did not have an exit strategy. Remember, there is no reason to be emotionally attached to any investment. Investments are designed for one thing and one thing only: to make you money.
Run it like a business. It all boils down to this: you need to run your portfolio like a business. And just like a real business, you need to have a disciplined strategy for success.
You have a choice to make, manage your portfolio yourself or hire a competent manager. If you do not have the tools, or the desire, to manage the day-to-day operations of your portfolio, then you better hire a skilled manager.
But just like a real business, you need to measure the performance of that manager regularly. If that manager is costing you more money then they are making, then you need to fire that manager. I know that sounds harsh but the reason you hire someone is to get the job done. If they can’t do it someone else can.
The choice is yours. You can choose to ignore performance and accept what the market gives you or you can take control of your investments. The sooner you run your portfolio like a business the sooner you will stop paying for losses. After all the only thing worth paying for are results.