Many people who get started investing focus on the possibility of big returns...
They're drawn to the chance (however remote) of doubling or tripling their money in a short amount of time.
I could rattle off dozens of investments with the potential for a high return right now. Some readers would gobble them up... and never even ask about the amount of risk they were taking on.
But most successful investors pay far more attention to the other half of the risk-reward ratio... Return means nothing without considering risk.
Take a look at electric-car maker Tesla Motors (TSLA). The company could dominate the future of cars. It builds well-engineered cars – with occasional hiccups – and has sold more electric vehicles than anyone in history. It definitely has the potential for high returns.
That potential has made it a popular stock. People like to own Tesla, and it gets tons of attention in financial media. The company is already valued at roughly $38 billion.
But consider that traditional carmakers Ford and General Motors are valued at $49 billion and $56 billion, respectively. Ford sold 2.6 million vehicles in 2016, and GM sold 3 million. Tesla delivered 76,000. Tesla has 67% of the value of GM, but sells fewer than 3% as many cars.
Tesla may take over the world. But with a valuation of more than six times sales and no profits, any misstep along the way will send shares straight downward. Tesla has the potential for high returns, but the risk is extraordinarily high.
It takes a lot of effort to save up $2,000 or $5,000. When you take big risks, you can wipe it out in a flash.
Risks lead to losses. Losses lead you to question the wisdom of saving and investing. You need to avoid risk by investing in quality stocks.
And even more important are the concepts of diversification and asset allocation. Here's why...
Diversify. You should never put more than 4%-5% of your portfolio into a single stock.
When you invest in a basket of stocks with big upside, only a few need to go right to boost your returns. Likewise, if one stock falls quickly, your losses will be smaller. (Positions in funds can be larger because each share represents partial ownership of multiple stocks. Funds provide automatic diversification.)
As the stocks you invest in get riskier and more expensive, you should put a smaller percentage of your capital into them. For example, I'm not going to invest in Tesla. But if you believe in its potential, it's not crazy to have 1% or even a half percent of your capital in Tesla's stock.
Having a diversified portfolio means you're not going to double it in one year – but it means it won't get cut in half, either.
Asset Allocation. You also need to diversify across asset classes.
Stocks, bonds, real estate, gold, and other investments move in different directions and are influenced by different economic factors. By holding multiple asset classes, you reduce your risk and increase the return you get per "unit" of risk you take on.
When you obsess about your risk, and not your return, you end up with a strategy that works over the long haul.
That's what Porter Stansberry, Dr. Steve Sjuggerud, and I are doing with the Stansberry Portfolio Solutions products...
We're obsessing about risk for you, so you don't have to. We're putting our research all together for you – and giving you an allocated, diversified portfolio that is incredibly simple to follow.
Instead of you having to do the work of reading newsletters, deciding which ideas are best, and allocating them into a portfolio... we're going to do it all for you.
We're going to build the portfolio for you, so that you end up with our best ideas... don't put too much into our more speculative recommendations... and allocate properly between our strategies. I'm confident that we can greatly increase your average return.
And unlike a financial advisor who meets with you maybe once or twice a year, our team will meet monthly to review each portfolio. So when there are unforeseen market events (as there always are), our team will address how that impacts your portfolio immediately and relay that information to you.
Again, we're starting this portfolio on February 1. I hope you're with us to "get there" with your investments in 2017. Click here to read more about Stansberry Portfolio Solutions and subscribe to the portfolio that best fits your investment goals.
- I answered a flood of questions from my e-mail inbox last Thursday. Did you read them?
- Many older investors' risk tolerance is based on recent stock market performance – don't fall into this trap.
- Something different: More evidence from Stanford of the benefits of coffee on inflammation!
Here's to our health, wealth, and a great retirement,
Dr. David Eifrig and the Retirement Millionaire Daily Research Team
January 23, 2017