Crash Tests, Clairvoyants and Risk Managers

This blog entry is published in the Financial Advisor Magazine Expert Views

Risk management is all about finding the suitable risk/return profile. Suitable, that is, to the holder of the portfolio. When your client has a suitable portfolio, he or she will not sell when the losses hit, because the possibility of those losses was discussed right from the beginning. The biggest problem for most investors is that they get in near the top and get out near the bottom. ‘Suitability’ ensures that this vicious circle is disrupted. But the only way that could happen if their risk/return tradeoff was chosen by considering a variety of scenarios: good, bad and ugly. Showing low risk simply because the realized volatility is low and VIX is heading toward single digits cannot really be called risk management. That is called rear view mirror driving.

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