Balancing Risk and Reward for Your Investment Success

By Net Worth Advisory Group

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Risk management is a favorite topic in financial circles and one we discussed at length in our risk and retirement article last year. In that post, we discussed how too much risk can be detrimental to your retirement planning, and how maintaining safe withdrawal rates to combat market risk and longevity risk (or the risk of outliving your retirement assets) can help in attaining retirement aspirations.

While these are two important aspects of “risk,” it’s worthwhile to delve deeper into the concept of risk management and understand the need to correctly gauge the various risks assumed when savings are invested to grow and finance future goals and objectives.

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Risk Has Many Faces

Let’s begin with reviewing what “risk” means. In financial terms, one might say that “investing” is the act of providing something of value (e.g., money) in hopes of receiving more value in the future; and therefore “risk” is the probability of a result differing from the expected outcome, with the potential to receive back less (or none) of the original value provided. Or it might encompass the idea that, given an expected assumption of a result, the actual result ends up being insufficient to support the objective in mind when allocating the asset in the first place.

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There are many forms of risk an investor may accept when providing money to realize a return on that money. There is systemic risk, or risks associated with systems such as political, economic or societal factors. These include market risk, inflation risk, reinvestment risk, and interest rate risk.

There is also unsystematic risk, or risk due to specific characteristics of the investment holdings themselves; these are the risks that might be reduced by diversification and index-based asset allocation. These specific risks include business risk, default risk, and liquidity risk. Both of these major categories, and subcategories of risk, are the types of factors we consider in making investment recommendations to our clients and managing those investment portfolios during different market and economic environments. 

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As an example, those with shorter time horizons or withdrawal needs which could be adversely affected by swiftly changing market environments (such as the interest rate increases of 2022), may require specific strategies that differ from those appropriate for investors with longer horizons and/or other objectives.

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Market Volatility & Risk Management

Risk and market volatility have long been intertwined and used interchangeably throughout financial history. Managing one’s emotions and reactions to volatility is often a core service of advisors, and especially over the last several months, the volatile swings in financial markets have reminded investors that indices can indeed decline. 

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While risk and volatility can arguably be different, part of risk management within investment strategies involves understanding one’s risk tolerance, or the degree to which an investor can absorb watching the value of their investment portfolio decline before they react. Or, to paraphrase famed economic psychologist Daniel Kahneman: “The key to understanding risk is a well-calibrated sense of knowing exactly when you will say ‘uncle’ when things don’t work out.”

In our discussions with our clients, for example, we spend a significant amount of time talking about “risk tolerance,” time horizon, and the client’s experience with market volatility. It’s easy enough to say, “It’s not a loss until you sell,” but much harder for many to accept it when a third or so of portfolio value vanishes in a bear market. The key to avoiding “crying uncle,” as Kahneman stated, is to understand how much volatility is acceptable, along with the investment time horizon, and balancing that tolerance with investments that could seek to maintain acceptable fluctuations and still reach stated investment and financial planning objectives. This is what risk management is all about.

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Facing Retirement Without Support

For those approaching retirement, all these risk factors can seem overwhelming. Reaching this critical life event and transition (when you’ll likely be depending upon fixed incomes and retirement savings to support you) suggests having guidance and expertise to help you make informed decisions and judgments that support your unique goals and objectives.

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You’ve spent decades carefully building and safeguarding your wealth—don’t leave your retirement to chance. Navigating this next phase alone can be risky, but with a trusted financial advisor, you can create a strategy that makes your savings last. The right guidance can mean the difference between running out of money and enjoying a stable, worry-free retirement.

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Call us today at 801-566-6639 or schedule a complimentary, no-obligation consultation to see if we are a good fit to help you pursue your goals.

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To learn more, visit our website.

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About Net Worth Advisory Group

Founded in 2003, Net Worth Advisory Group is an independent, fee-only, CERTIFIED FINANCIAL PLANNER® and investment advisory firm located in Salt Lake City, Utah. We specialize in helping people transition from the workplace into retirement and ensuring that those who are already retired will not outlive their nest egg. Our top priority is to have clients experience a greater sense of ease with diligent, personalized wealth care and the implementation of customized financial plans and ongoing personalized asset management. We equip all clients with a comprehensive financial plan, meeting every six months to update as needed and review investment performance. Our team is passionate about providing comprehensive financial planning with the fee-only model, and we love feeling like we’re making a difference in our clients’ financial lives.

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As a NAPFA-registered fee-only advisory firm, our recommendations are untainted by a hidden agenda to sell financial products paying large commissions. Unlike our competitors at brokerage firms, insurance companies, and banks, we are compensated solely by our clients, so we are financially motivated to provide objective advice that is always in our clients’ best interests. Anyone can call himself or herself a financial planner, but only an advisor with the CERTIFIED FINANCIAL PLANNER®, CFP® designation has met the education, examination, experience, and ethical requirements mandated by the CFP® board. According to the CFP Board, there are 97,000+ CFP® professionals in 2023, representing about 1 in 3 financial advisors in the U.S. Net Worth advisors are also members of NAPFA, which only has about 4,600 advisors, and are either CFP® professionals or CFP® professionals in training.

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Net Worth Advisory Group’s mission is to significantly improve the lives of our clients by delivering exemplary financial planning and wealth management advice that enables them to live the lives they have imagined.

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