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September, 2008


Which do most people fear more, a shark attack or dying in a car crash? There are exceptions, of course, but overall folks respond to the idea of being eaten by a shark or crocodile, or bitten by a poisonous spider or venomous snake, with more physiological signs of anxiety than of being killed in a vehicle accident. Yet the risk or odds are much higher that we shall die in our own car than the other options combined.

Though particular gun owners' experiences may be different, statistically we tend to accidentally kill ourselves or each other with firearms more than we use them for the security purposes for which they were actually bought.

Which is the greater risk in coastal areas, a global warming sea level rise or having no home insurance? Many express greater concern over coastal regions one day being inundated by rising oceans than losing their houses and having no insurance to compensate for the loss right now. Yet, insurance companies are already denying or canceling insurance to thousands or millions of homeowners in coastal communities or raising their premiums so high they cannot be afforded by most of us. The federal government is also running out of money to reimburse for lost homes after hurricanes, always a dubious remedy when the places were built in known flood areas. So it may be that people who cannot self-insure will have already vacated the most at risk areas long before sea level rises might threaten such places.

We fear dying in terrible accidents just as much as from diseases. Yet, on average, diseases kill us 17 times more often than accidents.

We tend to think risks from exotic or dramatic hazards are greater than those around us all the time.

News media may seek to benefit from our sometimes irrational assessments of risk. We hear about natural calamities on the radio or television and may assume they are a big deal to be concerned about. In fact, the odds are that only a small percentage of us will be seriously affected by such catastrophes.

Cell phone radiation from time to time rises to the top ten of folks' lists of concerns, yet few phone users take as seriously the statistically far greater risk of severe auto accidents from distractedly driving while talking or "texting" using their cell phones. Indeed, the average person with an auto license considers himself or herself both a superior driver and quite capable of juggling careful highway maneuvering along with cell phone usage.

Such risk assessment anomalies are discussed in Against the Gods, The Remarkable Story of Risk, by Peter L. Bernstein. In one portion of the work, he also deals with investment risk. It has become axiomatic that investors underestimate the risk of market volatility, for instance, until they begin to experience a new period of steep market rises or falls, but they then tend to overestimate the chances they may be completely wiped out in just a few days of volatile trading.

One result of a poor understanding of investing risk, or of our own tolerance for it, is that too many of us increase our exposure to risky investments while the markets are already high and going higher, yet we panic and want to rid ourselves of such risky assets when the markets are already low and going lower. So, although the most obvious guidance for success on Wall Street is to "Buy low, and sell high," too often we do the exact opposite!

This tendency is illustrated by the generation-long investment record from 1/1/1988 through 12/31/07, when the S&P 500 Index had an average annual total return of 11.81%, yet the typical investor had annual returns in her or his mutual funds of just 4.48%, thanks largely to fear-driven selling when the funds were down and greed-driven buying when they were up. We like to believe we are good market timers when we follow our gut instincts, but, on average, few of us actually are.

In the recent market turmoil, I too have not been immune from worries that I had best redeem all or most of our equities right away lest they go still lower. Had I done so, I would have locked in major losses and perhaps destroyed a heretofore reasonably good long-term record.

Studies have shown that every year there are seemingly good reasons for getting out of the stock market. To give just a few examples, there was the Cuban Missile Crisis, Three Mile Island, the early 1973, 1987, or 2000 equities bubbles, the Savings and Loan Crisis, the 9/11 terrorism, and so on. Yet, despite all the things that might spook the markets, for every $1 invested in the S&P 500 Index effective 7/1/1958 and merely left alone for the next fifty years, one would now have over $140 as of the end of the first half of 2008.

This is not to say there will not be down periods. There most certainly will. The eight and a half years since early 2000, for instance, were at best about a break-even period, while most of us can look back on more losses than gains. But the odds for the long-term investor, who stays in the market through its many gyrations, are better than for either the person who tries to time when to be out vs. in or the one who has all her or his nest egg funds in less volatile bond assets.

Inflation is a major risk to potential retirees. It often gets insufficient consideration. Some savers naturally prefer to avoid stocks entirely as being just too liable to go down. Yet the risk of outliving one's financial resources can be much greater if the portfolio lacks stocks or stock mutual funds. When two nest eggs begin with the same amount, the odds are that, relative to a mixture of stocks and bonds, a non-stocks allocation will barely keep up with inflation, meaning one has to work longer, have less to spend in retirement, or run a real risk of exhausting available funds, if fortunate enough to live long after retiring.

So, it is important to know one's portfolio and other risks well and also good to understand her or his tolerance for different investment risk levels. Yet, even if a small loss makes one want to be completely out of the stock market, it is usually worthwhile to have a portion, at least 25%, of one's assets in carefully selected stocks or stock mutual funds.

Speaking of risks, I also would not bet the farm on our being out of the woods in either real estate or the equity market soon. There were about 18 lean years* before the boom times that began in 1982 and ended 18 years later, in 2000. It is unlikely things will be that regular from now on, but if a cycle like that were to persist (and there are several reasons to think, despite periodic spikes in the markets, that the next few years will be depressed times), we have around a decade yet to go before another boom might finally come along. With luck, things will turn around a lot sooner, yet it may be best if we are well prepared for other eventualities, just in case it requires quite awhile to climb out of the financial hole our nation seems to be in lately.


  • Know Your Stock Risk Tolerance. Humberto Cruz in Star Banner; July 15, 2008.

  • Squirrel Chatter II: Perceptions of Risk. Charles P. McQuaid in Columbia Management; Semiannual Report, June 30, 2008.

  • The Intelligent Investor by Benjamin Graham (particularly Chapters 8 and 20); Harper and Row, New York, 1973.

*On 8/6/64, the DJIA stood at about 800 (823, to be exact). By 8/6/82, after 18 years, it was actually slightly lower, though still around 800 (784, to be exact).

(Many thanks to Evelyn for sending a collection of investment related articles [clipped from her local paper], from one of which it I took inspiration for this piece.)


Larry is not a professional. Don't take him seriously!

Actually, the investment article provided here is for general information only and should not be considered as professional advice, a solicitation to buy or sell any security, or the Word of God. Investors are encouraged to do their own research while considering their personal goals and circumstances, or consult their own professional financial advisors, before making investment decisions. Neither Larry nor LARVALBUG will be liable for any losses sustained by any visitor to this site.

(Disclosure statement: Larry and Val have holdings in some of the suggested assets but do not "make a market" in any of them and do not derive any direct benefit from recommending them, except perhaps for a bit of smug self-satisfaction.)

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