Wealth preservation: A (mis)calculated risk?
How focusing on the wrong risk has undermined wealth preservation strategies.
23 Jan 2015
Unstructured Learning Time
“Rule No. 1: Never lose money.
Rule No. 2: Never forget rule No. 1”
– Warren Buffett.
The world’s most successful investor is keenly aware of the power of compounding and how it works both for and against portfolios – positive returns generate future wealth but negative returns are extremely difficult to regain.
"Blending assets that hedge inflation with others that offer consistency or provide long-term growth opportunities, we arrive at a solution that meets our definition of wealth preservation."
These sage words apply to any investment objective. They particularly ring true when it comes to wealth preservation. At the most basic level, wealth preservation strategies should protect against loss; the goal is to ensure that the value of the portfolio today will not be lower in the future. Where it becomes more complicated is in how to measure success. Should the portfolio maintain its value on an inflation-adjusted basis? Should the opportunity cost be calculated, assessing whether higher returns could have been generated at similar risk levels? What happens if there is an unexpected need to withdraw capital?
In this article (which can be found at the link below), we set out to develop a wealth preservation solution that protects against the corrosive effect of inflation while balancing opportunity cost and accommodating the potential need for capital. Examining the six asset classes that have traditionally been touted as wealth preserving, we see that none of these addresses the four pillars that comprise our definition of wealth preservation. The risks in these traditional approaches are unbalanced – so-called “safe” investments fail to maintain purchasing power, while the more aggressive growth assets are too volatile for comfort.
We take a risk-balanced approach, constructing a portfolio based on understanding the asset classes’ underlying sensitivities to different types of risk (inflation, interest rates and economic growth). Blending assets that hedge inflation with others that offer consistency or provide long-term growth opportunities, we arrive at a solution that meets our definition of wealth preservation. This diversified portfolio builds on the strengths of each asset class while minimizing the impact where each falls short.
This research underscores the fact that there is no risk-free way to preserve wealth. A deeper understanding of the different types of risk and a balanced approach to investing are key to successfully preserving wealth for all investors.
The full interactive article is available below.