Lower Risk for Long-Term Success


The key to long-term success in investing lies in avoiding significant losses. This is the key takeaway from the recently completed 2023-2024 edition of the Honor Roll of investment newsletters. This exclusive list recognizes advisory services that have consistently demonstrated steady and reliable performance.

The Honor Roll consists of monitored investment newsletters whose model portfolios have outperformed the market in both bullish and bearish conditions. I carefully analyzed the track records of these newsletters over the past 16 years to identify those with above-median performance in both types of markets. (For a more detailed explanation of how the Honor Roll was constructed, click here.)

Let’s consider two hypothetical portfolios: one that evenly distributes its investments among the model portfolios of Honor Roll newsletters each year, and another that does the same with non-Honor Roll newsletters. Since 2006, the first portfolio has been 27% less volatile or risky than the second portfolio.

Surprisingly, the lower-risk portfolio has managed to outperform the more volatile one by an annualized percentage point of 1.0 over the past 17 years. Clearly, investing with less risk can lead to higher returns.

The Power of Averages

It should come as no surprise that lower-risk newsletters tend to perform better over time. This is due to an arithmetic quirk associated with compounding: recovering from a specific percentage loss requires an even greater percentage gain to break even. Therefore, simply reducing losses can put investors ahead.

To illustrate this concept, let’s take a look at the U.S. stock market’s historical performance. According to Edward McQuarrie, an emeritus professor at California’s Santa Clara University, the stock market has generated an average annualized return of 7.7% since 1793. Now, imagine an investment that consistently performs half as well or as poorly as stocks each year. For example, if the stock market delivers a 10% return in a given year, this hypothetical asset would gain 5%. If the market experiences a 10% loss, this asset would only suffer a 5% loss.

By adopting a lower-risk approach and mitigating losses, investors can position themselves for long-term success in the market. Remember, it’s possible to achieve greater financial gains by focusing on risk reduction.

Staying Invested: The Key to Long-Term Success

Many investors believe that achieving half the annualized return of the stock market would be a satisfactory outcome for their investments. However, there is a powerful strategy that has proven to be even more successful. By keeping risk low, you can actually outperform the market.

Warren Buffett, the legendary investor, has achieved phenomenal long-term performance by following a similar approach. A study titled “Buffett’s Alpha,” published in the Financial Analysts Journal in 2018, reveals that Buffett’s success is not due to luck or magic. Instead, he leverages cheap, safe, and quality stocks to create a conservative portfolio. This portfolio is then amplified to match the overall market risk.

In the words of Woody Allen, “90% of life is just showing up.” Similarly, when it comes to investing, 90% of long-term success is staying in the game. While it may be tempting to chase high-risk strategies that offer the possibility of big wins, many investors often abandon ship when these strategies result in significant losses. On the contrary, adopting a lower-risk strategy that you can stick with through thick and thin is likely to yield better results over the long term.

So, instead of relying on risky speculative stocks that can lead to fortunes gained or lost, consider the power of staying invested and keeping risk at bay. It’s a strategy that has been proven by some of the most successful investors in history.

More: America’s Aging Population: A Positive Outlook for the Stock Market

Plus: Navigating the January Bounce-Back: A Guide for Investors in 2023

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