[WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

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carofe
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[WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by carofe » Mon Sep 11, 2017 11:04 am

I found this article today in the WSJ, and I kind of agree with his point of view. I have come to the same conclusions even before I knew about Bogleheads when presented with those questions.

https://www.wsj.com/articles/your-toler ... 1505096160

What do you guys think?

Instead of being presented with questions like:
"Imagine the stock market looses 50% in value, would you buy or sell or do nothing?", I would appreciate education that helps you to understand the ups/down and accept them.

I think questions like the one he presents are better:
"Suppose that you are given an opportunity to replace your current investment portfolio with a new portfolio. The new portfolio has a 50-50 chance to increase your standard of living by 50% during your lifetime. However, the new portfolio also has a 50-50 chance to reduce your standard of living by X% during your lifetime. What is the maximum X% reduction in standard of living you are willing to accept?"

Pretty much after a good basic education is done, the questions should go more towards the tolerance for risk by contrasting, individual aspirations and current situation.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by nisiprius » Mon Sep 11, 2017 11:25 am

It's still not good enough. It's still just numbers. But then again, I'm convinced that the purpose of all these risk tolerance assessments is not an honest effort to gauge your true risk tolerance, but just a way of keeping brokerages and advisors out of trouble by having you put yourself on record as being happy with a certain level of risk.

It is very noticeable that (so far) I have yet to see a risk tolerance questionnaire that mentions a 50% decline as a hypothetical possibility, even though it's what happened in 2008-2009 and 2000-2002 and 1972-1974 and 1937-1938. I think the reason is that 50% has a certain psychological resonance to it, and it is much less alarming to think about the situation described by Vanguard in their questionnaire: "From September 2008 through November 2008, stocks lost over 31%."

The basic characteristic of risk tolerance is the feeling that you are outside normal bounds, outside the "elastic limits" of the stock market, in into uncharted territory. It is like the difference between driving on a two-lane highway and having a semi in the other lane come by with in the other direction with six feet of clearance, and having it come by slightly over the center line with three feet of clearance. The clearance is "only" 50% lower than normal, but it doesn't feel like percentages.

The psychological impact on me in 2008-2009 was not "-52%." It was "Countrywide and Northern Rock and Merrill Lynch and Bear Stearns and Indymac and (!!!) Fannie Mae and Freddie Ma and :!: :!: LEHMAN BROTHERS and Washington Mutual and AIG and Citibank and I don't even remember them all. As Stephen King likes to say ironically in his books, "the hits just keep on coming," and it gets to the point where you haven't even recovered from the last horrific collapse before the next happens.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by livesoft » Mon Sep 11, 2017 11:31 am

I wonder if a short-term game that you play online w/smart phone could substitute for a risk questionnaire. You play the game for a week or so while it goes through a few market cycles including a 2000 or 2008-2009 scenario. For clients who already pay money to an advisor, they could use real money of say $1,000 to see what the client actually does. That is, fake money is not used.

I can imagine the risk tolerance game sends one text messages during the day: "Your index fund just dropped 3% .... another 4% ... another 2% ...."

I know some of you like to have software projects, so what do you think of this idea? Better than Sims or FarmVille?
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Dottie57 » Mon Sep 11, 2017 11:36 am

livesoft wrote:
Mon Sep 11, 2017 11:31 am
I wonder if a short-term game that you play online w/smart phone could substitute for a risk questionnaire. You play the game for a week or so while it goes through a few market cycles including a 2000 or 2008-2009 scenario. For clients who already pay money to an advisor, they could use real money of say $1,000 to see what the client actually does. That is, fake money is not used.

I can imagine the risk tolerance game sends one text messages during the day: "Your index fund just dropped 3% .... another 4% ... another 2% ...."

I know some of you like to have software projects, so what do you think of this idea? Better than Sims or FarmVille?
I would not use because 1k to find out risk tolerance is toooo much!

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by livesoft » Mon Sep 11, 2017 11:45 am

Dottie57 wrote:
Mon Sep 11, 2017 11:36 am
I would not use because 1k to find out risk tolerance is toooo much!
At first, it would only be for folks who are paying way more than $1,000 to an advisor anyways and would be part of their payment.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Dottie57 » Mon Sep 11, 2017 11:48 am

livesoft wrote:
Mon Sep 11, 2017 11:45 am
Dottie57 wrote:
Mon Sep 11, 2017 11:36 am
I would not use because 1k to find out risk tolerance is toooo much!
At first, it would only be for folks who are paying way more than $1,000 to an advisor anyways and would be part of their payment.
Hehe. As you can see I am very averse to risk.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by livesoft » Mon Sep 11, 2017 11:55 am

A little more thinking about this: The game could simply replay prices from 2007-2009 in sped-up time, so what took 2 years could be replayed over a week or so.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by carofe » Mon Sep 11, 2017 1:09 pm

nisiprius wrote:
Mon Sep 11, 2017 11:25 am
The psychological impact on me in 2008-2009 was not "-52%." It was "Countrywide and Northern Rock and Merrill Lynch and Bear Stearns and Indymac and (!!!) Fannie Mae and Freddie Ma and :!: :!: LEHMAN BROTHERS and Washington Mutual and AIG and Citibank and I don't even remember them all.
That's a good way to put it.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Fallible » Mon Sep 11, 2017 7:18 pm

Statman nicely clarifies the concepts of risk, regret, fear, and overconfidence and shows in good detail how the questionnaires mistakenly lump them together under risk. And he’s right that lowering portfolio risk can mean missing goals, especially retirement goals (although taking on too much risk can mean bailing out in a market downturn and lowering it can be made up for by saving more, changing goals, working longer, etc.)

Statman concludes that it’s the “advisers’ responsibility to encourage clients to raise excessively low aspirations that will consign clients to poverty in retirement, and to accept fluctuations in value and even some losses for a chance to reach reasonable aspirations. At the same time, advisers should push back when aspirations for extravagance drive clients to speculative investments that expose them to large losses and poverty.”

True, but while it should be the advisers’ responsibility, I wonder how many advisers have the ability and willingness to correctly “diagnose” the complex fears, overconfidence, pride-seeking, regret, and risk aversions of their clients and then determine and guide them to the appropriate risk level. I’m sure some can, others can’t, and some, as Nisiprius and others have said, are more interested in using the questionnaires to guide their clients into high-risk portfolios that benefit them more than their clients. Investors should realize that this is why it’s also their responsibility to know themselves and to ultimately be in charge.

Thanks for the link. I’ve read a couple of Statman’s books, and especially liked, What Investors Really Want.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by White Coat Investor » Mon Sep 11, 2017 7:26 pm

Nothing like your first big bear market to figure out your risk tolerance.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by KlangFool » Mon Sep 11, 2017 7:41 pm

Folks,

IMHO, the big elephant in the room is job security.

A person may not worry about 50% drop in the stock market if he is not about to lose his job at the same time. But, those things tend to go together in a recession. And, there is at least one recession every 10 years for the US since 1836.

It is the first major laid off and knowing that even with a marketable skill, it may take a while for you to find a job that will truly test your risk tolerance.

Do we see this question asked in a questionnaire? If the stock market drops 50% and you lose your job, how long can you survive? How long before you lose your house?

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Fallible » Mon Sep 11, 2017 7:48 pm

White Coat Investor wrote:
Mon Sep 11, 2017 7:26 pm
Nothing like your first big bear market to figure out your risk tolerance.
Ah, yes, although bears can differ greatly and one may be easier to tolerate than another depending on individual differences. Then, too, individual risk tolerance changes often. What fun, being human.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by dwickenh » Mon Sep 11, 2017 7:49 pm

KlangFool has a good point. Even more disturbing might be the fact that you are retired this time. I was able to weather the storm last time because I was busy working and climbing the corporate ladder. I honestly looked very seldom at my investments. Now I am retired and living off the same investments. I also have much more time to look. I have reduced my stock allocation from 65/35 to roughly 50/50. Will it be enough to ride out the next storm? I am following my Investment policy statement, and hoping for the best.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by nisiprius » Mon Sep 11, 2017 7:49 pm

KlangFool wrote:
Mon Sep 11, 2017 7:41 pm
Folks,

IMHO, the big elephant in the room is job security.

A person may not worry about 50% drop in the stock market if he is not about to lose his job at the same time. But, those things tend to go together in a recession. And, there is at least one recession every 10 years for the US since 1836.

It is the first major laid off and knowing that even with a marketable skill, it may take a while for you to find a job that will truly test your risk tolerance.

Do we see this question asked in a questionnaire? If the stock market drops 50% and you lose your job, how long can you survive? How long before you lose your house?

KlangFool
Speaking as someone who lost their job in August of 2008, that is a really good point.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by KlangFool » Mon Sep 11, 2017 7:56 pm

nisiprius wrote:
Mon Sep 11, 2017 7:49 pm
KlangFool wrote:
Mon Sep 11, 2017 7:41 pm
Folks,

IMHO, the big elephant in the room is job security.

A person may not worry about 50% drop in the stock market if he is not about to lose his job at the same time. But, those things tend to go together in a recession. And, there is at least one recession every 10 years for the US since 1836.

It is the first major laid off and knowing that even with a marketable skill, it may take a while for you to find a job that will truly test your risk tolerance.

Do we see this question asked in a questionnaire? If the stock market drops 50% and you lose your job, how long can you survive? How long before you lose your house?

KlangFool
Speaking as someone who lost their job in August of 2008, that is a really good point.
nisiprius,

1) 50% of my co-workers in my building were laid off on 1/1/2009. The whole building was empty.

2) The sad part for me is that this looks tame as compared to Asian Currency Crisis when I was in Asia. The whole country went to hell. The road that used to be full of cars every day is empty.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by KlangFool » Mon Sep 11, 2017 8:06 pm

Folks,

I was in Texas during Texas Saving and Loan crisis. I still remember about the news story about converting old S&L branch to subway sandwich shop.

A) The drive through window could be used for drive through order

B) The bank vault is used to keep the cold cut for the sandwich.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Iliketoridemybike » Mon Sep 11, 2017 8:37 pm

KlangFool wrote:
Mon Sep 11, 2017 7:41 pm
Folks,

IMHO, the big elephant in the room is job security.

A person may not worry about 50% drop in the stock market if he is not about to lose his job at the same time. But, those things tend to go together in a recession. And, there is at least one recession every 10 years for the US since 1836.

It is the first major laid off and knowing that even with a marketable skill, it may take a while for you to find a job that will truly test your risk tolerance.

Do we see this question asked in a questionnaire? If the stock market drops 50% and you lose your job, how long can you survive? How long before you lose your house?

KlangFool
Reminds me of the saying; everybody has a plan until they get punched in the face. I think overall, people overstate their risk tolerance and there are a lot of secret sellers who once thought they would weather the storm.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by avalpert » Mon Sep 11, 2017 8:49 pm

I don't think there is any good way to get one's true risk tolerance without real exposure to the risks - there was no comparison for me to landing in 20+ knot winds in the simulator and the first time I was exposed to it in a real plane off of the real ground.

Your risk tolerance is also going to be different from one exposure to the next - particularly when we are talking about financial asset losses a decade apart when you are talking about much bigger losses than previously.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Phineas J. Whoopee » Mon Sep 11, 2017 9:56 pm

carofe wrote:
Mon Sep 11, 2017 11:04 am
...
I think questions like the one he presents are better:
"Suppose that you are given an opportunity to replace your current investment portfolio with a new portfolio. The new portfolio has a 50-50 chance to increase your standard of living by 50% during your lifetime. However, the new portfolio also has a 50-50 chance to reduce your standard of living by X% during your lifetime. What is the maximum X% reduction in standard of living you are willing to accept?"
...
It's a simple and common sales pitch, even if the product or service being sold isn't immediately apparent.

What if I told you I can arrange an opportunity for you to replace your current investment portfolio with a new portfolio every day financial markets are open?

The trick is distracting your attention from all those transaction costs, and maybe even tax preparation services, by making you think the salesperson can give you a good chance of a 50% increased standard cost of living, with arbitrarily small risk. The con is the percentage reduction is whatever number you like.

You can't cheat an honest man.

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Last edited by Phineas J. Whoopee on Mon Sep 11, 2017 10:19 pm, edited 1 time in total.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by KlangFool » Mon Sep 11, 2017 9:59 pm

Folks,

Please note that just because you can handle 50% drop when your portfolio is 100K, that does not mean you can handle the 50% drop when your portfolio is 1 million.

1) We are older.

2) Our human capital is less.

3) We have more to lose.

Do not be over-confidence. We need to protect ourselves from the unknowable.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Phineas J. Whoopee » Mon Sep 11, 2017 10:12 pm

KlangFool wrote:
Mon Sep 11, 2017 9:59 pm
Folks,

Please note that just because you can handle 50% drop when your portfolio is 100K, that does not mean you can handle the 50% drop when your portfolio is 1 million.

1) We are older.

2) Our human capital is less.

3) We have more to lose.

Do not be over-confidence. We need to protect ourselves from the unknowable.

KlangFool
Please note that increased age does not imply increased wealth. For an awful lot of people, present company excepted of course, it's the opposite.
PJW

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by KlangFool » Mon Sep 11, 2017 10:17 pm

Phineas J. Whoopee wrote:
Mon Sep 11, 2017 10:12 pm
KlangFool wrote:
Mon Sep 11, 2017 9:59 pm
Folks,

Please note that just because you can handle 50% drop when your portfolio is 100K, that does not mean you can handle the 50% drop when your portfolio is 1 million.

1) We are older.

2) Our human capital is less.

3) We have more to lose.

Do not be over-confidence. We need to protect ourselves from the unknowable.

KlangFool
Please note that increased age does not imply increased wealth. For an awful lot of people, present company excepted of course, it's the opposite.
PJW
PJW,

You are right. In any case, just because a person can handle 50% drop at age X, it does not mean the person can handle 50% drop at age X+Y. The portfolio may or may not be bigger but the person is older.

KlangFool

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by in_reality » Tue Sep 12, 2017 3:31 am

nisiprius wrote:
Mon Sep 11, 2017 7:49 pm
KlangFool wrote:
Mon Sep 11, 2017 7:41 pm
Folks,

IMHO, the big elephant in the room is job security.

A person may not worry about 50% drop in the stock market if he is not about to lose his job at the same time. But, those things tend to go together in a recession. And, there is at least one recession every 10 years for the US since 1836.

It is the first major laid off and knowing that even with a marketable skill, it may take a while for you to find a job that will truly test your risk tolerance.

Do we see this question asked in a questionnaire? If the stock market drops 50% and you lose your job, how long can you survive? How long before you lose your house?

KlangFool
Speaking as someone who lost their job in August of 2008, that is a really good point.

Job security + difficulty being older to find work again + expected obligations

Forced liquidation of distressed assets would stress me.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by SGM » Tue Sep 12, 2017 9:08 am

I have seen several of these risk tolerance surveys through various brokerages and mutual fund companies and don't put much faith in them. Statman makes some good points as to why they are not accurate. I have recently read his latest book Finances for Normal People and found it a good read concerning the effects of human error on investing.

I have always had job security and an ability to change horses in midstream when it came to working. Now that I am retired and human capital is much less, I have changed my AA to be more conservative. My aspirations were to be financially independent early on, but not to retire early. Downturns in the market were considered opportunities to buy more shares at a lower price when I was working. This is a good attitude to have for investing if you have job security. Being unemployed or underemployed for long periods can do a lot of damage to portfolios and make one possibly too conservative going forward.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by sjwoo » Tue Sep 12, 2017 10:35 am

This is why it's always worth it to have allocation in bonds, isn't it? Even if they are overvalued, when the proverbial you-know-what hits the fan, people will switch into bonds in droves. Even if their rates go down to 0.5%, because 0.5% is way, way better than -30% in stocks...

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by MathWizard » Tue Sep 12, 2017 11:42 am

There is tolerance of risk, and need to take risk.

I also do not ascribe to the notion that there are truly risk-free assets. There are only assets which have risks
relative to one another. The so-called risk-free assets (FDIC insured or Treasuries) still have inflation risk and
for a retiree, longevity risk.

One must learn which risks are acceptable and which are not. For a person who is quite conservative,
my portfolio looks quite "risky" as it is equity heavy for my age. I have weathered bear markets and will do so again,
as I consider having more stocks than age in bonds the less risky approach.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by avalpert » Tue Sep 12, 2017 1:09 pm

MathWizard wrote:
Tue Sep 12, 2017 11:42 am
There is tolerance of risk, and need to take risk.

I also do not ascribe to the notion that there are truly risk-free assets. There are only assets which have risks
relative to one another. The so-called risk-free assets (FDIC insured or Treasuries) still have inflation risk and
for a retiree, longevity risk.
TIPS do not have inflation risk and I'm not sure what you mean by longevity risk in this context. A 30-year TIPS has no risk covering most people's retirement span.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Dottie57 » Tue Sep 12, 2017 1:17 pm

KlangFool wrote:
Mon Sep 11, 2017 9:59 pm
Folks,

Please note that just because you can handle 50% drop when your portfolio is 100K, that does not mean you can handle the 50% drop when your portfolio is 1 million.

1) We are older.

2) Our human capital is less.

3) We have more to lose.

Do not be over-confidence. We need to protect ourselves from the unknowable.

KlangFool

This is so true for me. I weathered every down turn well until 2008 when I had more $ and less time to "recuperate". Fear was the word of the day for me.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by roflwaffle » Tue Sep 12, 2017 3:02 pm

I like asking better questions. I'd also ask something like...
Also, what the is maximum temporary X% reduction in standard of living you are willing to accept to increase your standard of living by Y% later?
Because that's a big part of what we're talking about. Equities return more than other investments because they're more volatile. If you're willing to adjust your standard of living accordingly, that should minimize most of your risk.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by david_that_guy » Tue Sep 12, 2017 3:38 pm

I strongly agree that no quiz or game or questionnaire can uncover your true risk tolerance. Every time I've tried those questionnaires my risk tolerance comes out much higher than I know it really is.

I've been investing since the early 1980's with a very high allocation to stocks. All the ups and downs never bothered me because I was confident my investments would recover and I was secure in my job. Then in 2008, I realized, too late, that everything had changed. First, I was only 5 years from my planned retirement date and did not have a lot of time to recover. Simultaneously my job was much less secure and job prospects for old farts were not good. So, I cut my allocation to stocks substantially. If you're unkind you'd say I panicked. If you're kind you'd say I realized I had the wrong asset allocation.

In early 2010, I decided I had gone too far and shifted back a lot to stocks so my allocation was about half way in between the pre-20008 and the post 2008 level. That turned out to be one of the best decisions of my life but was probably just good luck. I also decided to work an additional 3 years before retiring to make sure I had more than enough.

I still think about my decision making in 2008 and my current asset allocation all the time. I think I now know my real risk tolerance but only another 50% drop would tell for sure.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by nisiprius » Tue Sep 12, 2017 4:25 pm

MathWizard wrote:
Tue Sep 12, 2017 11:42 am
I also do not ascribe to the notion that there are truly risk-free assets. There are only assets which have risks relative to one another. The so-called risk-free assets (FDIC insured or Treasuries) still have inflation risk and
for a retiree, longevity risk.
This is, I think, a side-effect of a misunderstanding of a technical term. The "risk-free asset" is a useful concept in financial economics, notably MPT and CAPM. It is the same kind of thing as the frictionless plane in physics or the infinitesimal point in geometry. They don't exist but conceptually they are useful. Just as one might use air pucks to approximate the behavior of objects on a frictionless plane and indeed they are sometimes called "frictionless air pucks," but of course they have friction.

Similarly, it is useful to talk about the risk-free asset. If, for example, the risk-free asset has a return of 5%, then the optimum portfolio of stocks and bonds will have less stocks in it than it would if the risk-free asset had a return of only 1%. Since FDIC-insured bank accounts and Treasury bills are a fairly good approximation to "the risk-free asset," and just as one talks, inaccurately, about "frictionless air pucks" one might talk about "the risk-free asset, like Treasury bills."

And, of course, "risk-free" here refers only to volatility, standard deviation. It doesn't mean utterly free of all risks whatsoever... just as a "frictionless air puck" is not frictionless after the air runs out, or if they are placed on a table whose surface is too rough, etc.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by KlangFool » Tue Sep 12, 2017 4:34 pm

david_that_guy wrote:
Tue Sep 12, 2017 3:38 pm
I strongly agree that no quiz or game or questionnaire can uncover your true risk tolerance. Every time I've tried those questionnaires my risk tolerance comes out much higher than I know it really is.

I've been investing since the early 1980's with a very high allocation to stocks. All the ups and downs never bothered me because I was confident my investments would recover and I was secure in my job. Then in 2008, I realized, too late, that everything had changed. First, I was only 5 years from my planned retirement date and did not have a lot of time to recover. Simultaneously my job was much less secure and job prospects for old farts were not good. So, I cut my allocation to stocks substantially. If you're unkind you'd say I panicked. If you're kind you'd say I realized I had the wrong asset allocation.

In early 2010, I decided I had gone too far and shifted back a lot to stocks so my allocation was about half way in between the pre-20008 and the post 2008 level. That turned out to be one of the best decisions of my life but was probably just good luck. I also decided to work an additional 3 years before retiring to make sure I had more than enough.

I still think about my decision making in 2008 and my current asset allocation all the time. I think I now know my real risk tolerance but only another 50% drop would tell for sure.
david_that_guy,

It is probably helpful and educational for folks reading this thread if you could tell us about your AA

A) Pre-2008

B) Post-2008

C) Early 2010

My painful lesson was from the Telecom bust. I lost 50% with my AA of 100/0. I changed to 70/30 after that.

KlangFool

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by david_that_guy » Thu Sep 14, 2017 10:43 am

pre 2008 my asset allocation was 75/25 stocks/bonds. In hindsight, this was too high for me when I was 5 years from retirement. I had been at that AA for around 20 years

post 2008 I changed my asset allocation to 35/65. This was my over-reaction.

early 2010 I changed my asset allocation to 50/50 where it is remained. I have been re-balancing yearly.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by itstoomuch » Thu Sep 14, 2017 10:51 am

KlangFool wrote:
Mon Sep 11, 2017 9:59 pm
Folks,

Please note that just because you can handle 50% drop when your portfolio is 100K, that does not mean you can handle the 50% drop when your portfolio is 1 million.

1) We are older.

2) Our human capital is less.

3) We have more to lose.

Do not be over-confidence. We need to protect ourselves from the unknowable.

KlangFool
btdt
Not so much as being over confident but not really watching until it was too late. :confused
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by david_that_guy » Thu Sep 14, 2017 10:53 am

What I struggle with now is the dichotomy between need to take risk and ability/willingness to take risk. Since I worked an "extra" 3 years before retiring and my wife and I are very frugal, I could change my AA to 30/70 and still be fine. I find the idea that once you have won the game, you should stop playing very compelling. On the other hand, I would like to leave some legacy and don't mind taking more risk.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Random Walker » Thu Sep 14, 2017 11:08 am

David_that_guy,
Sounds like Monte Carlo Simulation could potentially help you out lots. Sometimes the results are a bit anti-intuitive. A certain more aggressive AA can increase the likelihood of leaving a legacy but actually be more likely to run out of money before you pass as well. A MCS that evaluates the effect of different AAs on the likelihoods of different end points can be enlightening.

Dave

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by bayview » Thu Sep 14, 2017 11:50 am

KlangFool wrote:
Mon Sep 11, 2017 7:41 pm
Folks,

IMHO, the big elephant in the room is job security...

KlangFool
KlangFool wrote:
Mon Sep 11, 2017 7:56 pm
nisiprius,

1) 50% of my co-workers in my building were laid off on 1/1/2009. The whole building was empty.

2) The sad part for me is that this looks tame as compared to Asian Currency Crisis when I was in Asia. The whole country went to hell. The road that used to be full of cars every day is empty.

KlangFool
KlangFool wrote:
Mon Sep 11, 2017 8:06 pm
Folks,

I was in Texas during Texas Saving and Loan crisis. I still remember about the news story about converting old S&L branch to subway sandwich shop.

A) The drive through window could be used for drive through order

B) The bank vault is used to keep the cold cut for the sandwich.

KlangFool
KlangFool wrote:
Mon Sep 11, 2017 10:17 pm
PJW,

You are right. In any case, just because a person can handle 50% drop at age X, it does not mean the person can handle 50% drop at age X+Y. The portfolio may or may not be bigger but the person is older.

KlangFool
KlangFool wrote:
Tue Sep 12, 2017 4:34 pm
david_that_guy,

My painful lesson was from the Telecom bust. I lost 50% with my AA of 100/0. I changed to 70/30 after that.

KlangFool
KlangFool, could you please refrain from moving to North Carolina for the next few years? :D

j/k --your posts are invaluable for all BH members, especially those who weren't around for some of the big bears/busts and for those whose optimism has led them to discount their true risk tolerance. Thanks for your posts.
The continuous execution of a sound strategy gives you the benefit of the strategy. That's what it's all about. --Rick Ferri

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Stormbringer » Thu Sep 14, 2017 3:39 pm

Actually, what shook me in 2009 wasn't the stock market, it was Wells Fargo closing my HELOC. Even though I didn't carry a balance, for years I treated it as my emergency fund. It never occurred to me that the bank might just close millions of them without notice at the worst possible time. That forced me to become a prolific saver in the subsequent years to build up some liquid savings.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by bayview » Thu Sep 14, 2017 7:27 pm

Stormbringer wrote:
Thu Sep 14, 2017 3:39 pm
Actually, what shook me in 2009 wasn't the stock market, it was Wells Fargo closing my HELOC. Even though I didn't carry a balance, for years I treated it as my emergency fund. It never occurred to me that the bank might just close millions of them without notice at the worst possible time. That forced me to become a prolific saver in the subsequent years to build up some liquid savings.
Thanks for posting this. There are far too many people who think that a HELOC is a safety net, only to find that when they need it most (financial meltdown), it's not there.

We have a HELOC, but we certainly don't expect it to be there when the hmmm hits the fan.
The continuous execution of a sound strategy gives you the benefit of the strategy. That's what it's all about. --Rick Ferri

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Dead Man Walking » Thu Sep 14, 2017 7:58 pm

Those risk tolerance surveys that ask how an investor would feel about a 50% loss should also point out that a 50% loss requires a 100% gain to get back to even. Most would love to see a 100% gain; however, that gain loses its luster when one realizes that he is only getting back to his starting point.

DMW

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by VictoriaF » Thu Sep 14, 2017 8:30 pm

In 2008-2009, the problem was not only that the market was falling. The problem was that the market fall was very logical. It was an outcome of a set of calamities: housing collapse, collateralized debt obligations (CDO) debacle, frozen money flow, runs on banks in Europe, money markets breaking the buck, the beautiful Iceland becoming bankrupt and American municipalities on the way to the same. It was clear that the global economy was collapsing, and there were no signs how it could possibly recover. It was not just a number that was falling, it was the sense the economies were experiencing something they have never seen before. Not even during the Great Depression. "This time was different," and it was different in a bad way.

If you want to create a useful simulator, do not just play with the numbers. Create an environment of a comprehensive doom. Make one feel hopeless. Make one feel that all is lost and will never be gained back. And then ask him "So how much do you really want to have in stocks?"

Victoria
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by itstoomuch » Thu Sep 14, 2017 9:22 pm

^ "This time it's different"

After the 2008-09, Older Bro told me (by this time public knowledge, if you know where to look) that many Management decisions at his and other financial institutions, violated that Institution's own risk rules and those violations were known only to just a handful of management. C level executives and their support staff, were trying to understand and contain the bursting bubble did so without knowing the full picture until far into the collapse; By Election, it was near too late except for a bailout and pray that the bailout gambit would turn sentiment.

Hence we see Clawbacks and stringent oversight by the OCC.
salary.com {try goog: Equ---x executive compensation}

We may have had a "Seldon Crisis"
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by ThrustVectoring » Thu Sep 14, 2017 10:49 pm

sjwoo wrote:
Tue Sep 12, 2017 10:35 am
This is why it's always worth it to have allocation in bonds, isn't it? Even if they are overvalued, when the proverbial you-know-what hits the fan, people will switch into bonds in droves. Even if their rates go down to 0.5%, because 0.5% is way, way better than -30% in stocks...
There's a "buy low, sell high" effect you get from holding bonds and buying stock in dips (and vice versa, holding stock and selling them to buy bonds in bull markets). This is outweighed by the fact that most people expect stocks to significantly outperform bonds over the long run. With access to good rates on margin loans, some serious stomach for risk, and 30+ years to play with, you're better off levering up to 1.2x or so before the losses from rebalancing into stocks during rallies and selling in bear markets starts to catch up to the increased returns.

You hold bonds not because it helps your expected returns, but because you aren't in a good position to weather a bear market in the next two decades. If you've got rock-solid job security, or extremely low living expenses, or are really young, you probably ought to be aggressive to the point where you feel slightly uncomfortable.

Really depends on your personality though. I know I'm far more comfortable with dealing with unlucky setbacks from good processes than other folks are.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by book lover » Fri Sep 15, 2017 11:59 am

When the crash came in 2008/2009, we were down 17%. When things began to normalize, my wife and I decided that our asset allocation to stocks needed to go lower which we did. In retrospect, had we stayed where we were at our net worth would be more but we certainly sleep better at night and are not too concerned about when the next big drop comes. The maxim about not risking if you do not need to take the risk really struck a chord.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by LukeHeinz57 » Fri Sep 15, 2017 1:15 pm

This is what concerns me...

I tell myself I have a high-risk tolerance because I didn't sell and kept adding to my 100/0 AA through 2008-2009. However, the truth is, I had zero kids a working spouse and a mid-five-figure portfolio composed solely of my 401k plan at that time. Now I am the sole earner in our family, have four kids and a mid-six-figure portfolio. I have made the transition after finding Bogleheads a couple of years ago to include bonds in my AA. First at 80/20 and now I'm drifting towards 75/25. I know I would keep buying through a crash and will happily rebalance. But I'm just not sure how I would psychologically handle seeing more than a quarter million evaporate in less than a year at this point. So I'm growing more cautious...

I wish I could say this feeling isn't related to the long-running Bull market we are in. But I know if things were down I would be much more aggressive. I suppose there are worse sins than being a tactical asset allocator within a 10-20% range. :twisted:

But maybe not here on Bogleheads! :oops:
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Portfolio7 » Fri Sep 15, 2017 1:41 pm

LukeHeinz57 wrote:
Fri Sep 15, 2017 1:15 pm
I wish I could say this feeling isn't related to the long-running Bull market we are in. But I know if things were down I would be much more aggressive. I suppose there are worse sins than being a tactical asset allocator within a 10-20% range. :twisted:
I expect there are a lot of ways to apply the basic Boglehead principles. I have a basic AA, but I let myself take up to 20% and try to act tactically. Often I am just at my base AA (2009-2014), but for example right now I'm overweight international small and emerging markets. The 80-100% keeps me grounded, the 0-20% doesn't appear to have hurt me any. I really like what I've read of Bernstein (IAA, 4 Pillars), and if I'm interpreting him correctly, he seems to be of the opinion that a little skew to relatively cheap assets isn't a sin.
An investment in knowledge pays the best interest.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Kevin M » Fri Sep 15, 2017 2:38 pm

david_that_guy wrote:
Thu Sep 14, 2017 10:53 am
What I struggle with now is the dichotomy between need to take risk and ability/willingness to take risk.
Relatively low need and relatively high ability to take risk is a typical situation for someone whose financial capital is high relative to residual living expenses (either actual or expected in retirement). I view willingness to take risk as independent of the other two, and for me it's the tiebreaker that pushes me to place a higher weight on low need to take risk. Hence my 30/70 stocks/fixed-income target AA, but an investment policy that allows a higher stock allocation if and only if my willingness to take risk is sufficiently tested, as it was in 2008/2009 (and not even close since).
On the other hand, I would like to leave some legacy ... <snip>
To me, this can be considered a component of need to take risk--it's up to you whether or not a legacy is part of your need. I also hope to leave a legacy, but currently don't include it in my need to take risk.
... <snip> and don't mind taking more risk.
So in your case, your higher willingness to take risk pushes you to place more weight on higher ability to take risk if you don't factor legacy into your need, or you could just say that higher willingness allows you to include legacy in your need without exceeding your ability.

Kevin
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by Fallible » Fri Sep 15, 2017 3:16 pm

Kevin M wrote:
Fri Sep 15, 2017 2:38 pm
david_that_guy wrote:
Thu Sep 14, 2017 10:53 am
What I struggle with now is the dichotomy between need to take risk and ability/willingness to take risk.
Relatively low need and relatively high ability to take risk is a typical situation for someone whose financial capital is high relative to residual living expenses (either actual or expected in retirement). I view willingness to take risk as independent of the other two, and for me it's the tiebreaker that pushes me to place a higher weight on low need to take risk. Hence my 30/70 stocks/fixed-income target AA, but an investment policy that allows a higher stock allocation if and only if my willingness to take risk is sufficiently tested, as it was in 2008/2009 (and not even close since).
...
This nicely explains the relationship among need, ability, and willingness to take risk and how they are applied depending on the individual. A reason willingness is separate from need and ability is that it refers to risk tolerance, which involves emotions. It's why one can have the need and ability, yet still feel stressed over market volatility and crashes and simply no longer want to deal with it. It's nice to have that choice.
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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by BuyAndHoldOn » Sat Sep 16, 2017 8:34 pm

Assuming I have a good/stable job: I would be a buyer in an equity market downturn. Who wouldn't be? (I know, some or many would not be - but I am talking to the Bogleheads here).

I mean, I buy equities even when there isn't a downturn :) A market dip just makes everything cheaper.

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Re: [WSJ] Your Tolerance for Investment Risk Is Probably Not What You Think

Post by VictoriaF » Sat Sep 16, 2017 9:02 pm

BuyAndHoldOn wrote:
Sat Sep 16, 2017 8:34 pm
Assuming I have a good/stable job: I would be a buyer in an equity market downturn. Who wouldn't be? (I know, some or many would not be - but I am talking to the Bogleheads here).

I mean, I buy equities even when there isn't a downturn :) A market dip just makes everything cheaper.
You are considering the downturn in abstract and focusing on the numbers. The downturn will not be just falling numbers. There will be compelling stories behind falling numbers. Perhaps, the stories will have something to do with North Korea, perhaps there will be an epidemic that will freeze global travel, perhaps there will be a cyber calamity that will freeze global communications, perhaps new means of terrorism will cause wide-spread panic. We don't know today what these stories will be, but when they hit us, buying stocks on the dip will be the last thing on our mind.

And just because we have survived previous market downturns we should not conclude that we will survive the next one.

Victoria
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