Is Your Passive Portfolio Too Aggressive?

Investing without risk-management is just a different form of speculation.

The past 10 years have been both a glorious ride and a great excuse for investor complacency. After all, just invest your money in the broad market indexes, go about your business, and retire early, right? Well, not so fast.Investing is above all else cyclical. And while cycles can be muted by suppressing interest rates, media hoopla, good vibes and animal spirits, eventually, the collective investment population decides that high is too high. And I am talking about the broad stock market, not the emerging cannabis industry.At some point, investor complacency gets so hard-coded into the mainstream, people like me…risk-managers and financial realists…get drowned out by the hype of IPOs, high-tech stock price records, and the like. But at some point, investors come to be reminded that investing in “the market” as opposed to prioritizing the management of risk has a downside.Maybe we are just about getting to that point now. Or maybe we have been there since January of 2018, when I declared the investment environment to be “Stormy,” the most dangerous of the 4 major weather conditions I have used to describe the trade-off between reward and risk for many years. Or perhaps we are still a way off from a true reckoning of the current market situation: that stocks have likely pulled forward years of returns from the future into the past few years, thanks to central banks keeping the punch bowl at the party way past midnight.Regardless, I can’t help but notice that there are now 5 U.S. equity ETFs that have over $100 Billion each invested in them. 3 of the 5 are products of a company called Vanguard. Perhaps you have heard of them (he said with tongue-in-cheek). Those 5 ETFs had over $1.8 Trillion in assets as of 5/12/19. Good for them. But there’s something you should know about that situation: when the market rolls over, there is not much benefit to diversification.And for all of the fanfare about “low-cost investing,” it does not matter if you paid 0.02% or 0.08% or whatever for your index fund if the investment lords have decided its payback time for those returns borrowed from the future. Even Marty McFly and Doc can’t get you out of that one.This is NOT an article about the direction of the stock market. It is about deceiving yourself into thinking that so-called “passive” investing is the panacea that so many think it is. Investing in the index has a place for many investors. But don’t ever convince yourself that it is anything other than a bet on the future returns of the broad stock market. And those returns over the past 10 years have been about as high as they have been in any 10-year period in history.In the graph below, you can see the 5-year total returns of the 5 ETFs. Sure, the Mid-cap fund lagged a bit, and there was a slight gap between the 3 funds that track the S&P 500. But that is splitting hairs unless you are a huge institution.For the rest of us, the key observation is in the graph below. This is how those 5 ETFs fared when the stock market dropped suddenly for 3 weeks last December, a period I refer to fondly as the “crash test.” The key takeaway: investing without risk-management is just a different form of speculation. Buying the market as your investment process may be easy, but it is not painless. This is a great time to start making room for additional approaches to growing, and especially conserving your wealth.To read more, click HERE