Your Portfolio: Why Minimizing Your Losses is More Important Than Maximizing Gain
November 27, 2018
By Colin O'Shea
One of the tenets of our investment philosophy at Security National Bank is “minimize losses and maximize gains.” This seems like an obvious investment rule, but there is a crucial reason why the “minimize losses” part comes before “maximize gains.”
The key is that the investment return or gain needed to fully recover from portfolio losses grows exponentially with the size of the loss. As the loss grows, the return needed to make up that loss grows even more.
Why a Loss Hurts More Than a Gain Helps
Let’s break it into numbers. Say you started out with $10,000. A loss of $2,000 — minus 20 percent — would take the value down to $8,000. To get back to even, to make up that same $2,000, a return of plus 25 percent is needed. The return needed to break even grows exponentially, the greater the loss. Starting at $10,000 with a $3,000 loss — minus 30 percent — means that you'll need a plus 43 percent return to get to even.
The following chart illustrates the greater the loss, the greater the return required to get back to even:
Let us look at the last recession. From market peak in October 2007 to the low in March 2009, the S&P 500 declined 58 percent. A $10,000 portfolio would have lost $5,800. To get back to even, the required return for the remaining $4,200 portfolio is now 136 percent. According to the American Association of Individual Investors (AAII) and CFRA Research, this return took about four years to achieve, provided two conditions:
- If the investor worked with an advisor, and
- If the investor held firm and did not sell during the downturn.
Without a steadying hand and independent advice, however, the average investor took nearly seven years to regain his or her losses.
This “minimize losses and maximize gains” philosophy is especially important in times of market turbulence. It helps preserve capital, smooth returns over time, and better enables our clients to achieve financial success. Please contact one of our financial professionals today in order to determine whether your portfolio aligns to your goals, and see how our philosophy can help you achieve those goals.