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Know Your Risk Number Before You Invest

Instead of answering endless questions about your risk tolerance that are hard to understand, you can now use an interactive online questionnaire that will calculate your Risk Number (RN) in less than five minutes. Using the risk alignment platform Riskalyze, you create your own personal RN. This tool pinpoints your level of risk, and knowing your RN can remove some of the fear from investing. It is possible to invest at your own pace and develop confidence before you invest, regardless of whether your investments are concentrated in your company stock or 401(k), or personally or professionally managed.

You can begin investing without fear by completing a simple five-step process: 

  1. Know thyself: How does the market (or company stock price) makes you feel when it goes down?
  2. Take control: Create your unique RN in less than 5 minutes.
  3. Remove fear from investing: Tailor any investment portfolio(s) to match your RN.
  4. Invest at your pace: Markets will move up and down, but your portfolio will mirror your RN, not a market index.
  5. Know before you invest: Know the range of investment return prior to investing.

Many employees of technology companies have benefited financially from a significant rise in their company stock. The newest acronym of technology winners has been dubbed FANG, which stands for Facebook, Amazon, Netflix and Google. More recently a “+” has been added with “M” (Microsoft) to make “FANG + M.” Out of these five companies, only two may still have long-term employees who experienced the tech bubble or dot-com bubble when Amazon and Microsoft experienced significant losses. From peak to trough (1997-2000), these stocks were down more than 60% and the NASDAQ composite index was down a whopping 78%.

Before any of the readers say, “Well if you had invested in the long term with these companies, you would have made $X, XXX,XXX,” let's pause for a moment on the reality. The popular belief from 1997-2000 was that the upward rise in stock prices would never end, but it did. The recovery has been shorter for some stocks and longer for others. It took 17 years for Microsoft stock to regain its high in 2000. Back in 2000 most investors had very little information about how much risk they were taking in the stock market. All they knew was their new wealth was created through a company stock plan and it was doubling every year. It was virtually like money growing on trees. (For related reading, see: A Beginner's Guide to Investing in Company Stock Plans.)

I personally interviewed dozens of families from Microsoft in the aftermath. The loss of wealth was tremendous, but the damage to marriages, careers and self-worth was devastating. Employees had built a lifestyle of the “rich and famous” and it all went away in a few short months. First it was the margin calls, next was the default of the mortgage, then foreclosure of their homes. The financial part was the easy part, it was the emotional stress that destroyed families. I have no idea what the divorce rate was at Microsoft after the bubble burst, but I heard countless heartbreaking stories.

Going from a million-dollar lifestyle to a middle-class budget overnight, plus the financial hardship created from the foreclosure of homes, was more than a lot of marriages could bear. Looking back, it was thousands of tech industry employees who foreshadowed the financial crisis of 2008 that affected millions. Back in 2000, people lived with fear and greed when it came to the stock market. Today, you must still deal with fear and greed, but we now have tools to help mitigate investors' fears.

Employees of “FANG + M” can now peer into a six-month window and know with a much greater probability the range of their company stock, investment portfolio or 401(k) account. For example, I put together for illustrative purposes  a “FANG + M” portfolio and equally weighted the companies. The probability range is -28.0% to +36.6%. This also translates into an RN of 91. Most investors are not comfortable with an RN of 91 and many of you are probably a little squeamish right now about a possible 28% drop in your portfolio. Knowing your Risk Number, you can now take control of the process, which can be replicated with any stock or mutual fund portfolio.

Removing the fear from investing reduces investor stress and allows you to focus your time on important activities like family, friends, work or hobbies. And knowing your RN will help avoid the investing mistakes of the 2000 tech bubble.

(For related reading, see: Determining Risk and the Risk Pyramid.)

 

The views are subject to change and are not intended as a forecast or guarantee of future results. This material is for informational purposes only. It does not constitute investment advice and is not intended as an endorsement of any specific investment. Stated information is derived from proprietary and nonproprietary sources that have not been independently verified for accuracy or completeness. While Sowell Management Services believes the information to be accurate and reliable, we do not claim or have responsibility for its completeness, accuracy, or reliability. Statements of future expectations, estimates, projections, and other forward-looking statements are based on available information and Sowell Management Services' view as of the time of these statements. Accordingly, such statements are inherently speculative as they are based on assumptions that may involve known and unknown risks and uncertainties. Actual results, performance or events may differ materially from those expressed or implied in such statements. Investing in securities involves risks, including the potential loss of principal. While equities may offer the potential for greater long-term growth than most debt securities, they generally have higher volatility. International investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles, or from economic or political instability in other nations. Past performance is not indicative of future results.