Rightsizing Your Risk and Overcoming the Wealth Gap

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A crisis often arrives like a thief in the night.

hand of businessman pulling out or placing wood block on the tower in modern office. plan and strategy in business.

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Most of us never see it coming until it has already launched its initial attack on our portfolios.

When stock prices are flying high, we tend to believe they’ll fly even higher. We underestimate the risk of a severe sell-off. Over and over again, we fail to see serious risks, even when they’re right in front of us.

Just like the 15 Wall Street analysts who rated Enron a “Buy” a few months before it flamed out and went bankrupt (we discussed this on Thursday), many investors fail to recognize serious risks until it’s too late. We’re too busy falling in love with our high-flying stocks to worry about them rewarding our affection with painful losses.

Fortunately, we don’t need to choose between being all in or all out.

There is a better way.

Rightsizing Your Risk

We diversify — we allocate our assets intelligently.

And then we rebalance those assets regularly (at least annually).

Now, let’s take a closer look at an Intelligent Asset Allocation strategy that can protect your portfolio from any bear market that comes our way.

Could this be behind the next wave of millionaires?

When I say “Intelligent Asset Allocation,” I’m referring to both the precise assets that make up a portfolio and to the weightings of each asset in that portfolio. Some portfolios might devote 60% of their allocation to stocks, whereas others might devote just 40% to stocks.

When it comes to the weightings in an asset allocation, there is no one-size-fits-all formula; each investor must determine the appropriate weighting of his portfolio assets, based on factors like age, risk tolerance and investment objectives. A 55-year-old who is paying college tuition for three children would, of course, think about asset allocation much differently than a single 25-year-old.

A long-standing rule of thumb is that investors should subtract their age from 100 and commit that percentage of their portfolio to stocks. The remaining percentage should reside in relatively safe assets like cash, gold, and short-term Treasury securities.

For example, the portfolio of a 35-year-old investor would be 65% in stocks and 35% in safer investments. Whereas the portfolio of a 75-year-old would be 25% in stocks, with the remaining 75% in safer assets.

While each individual must determine his own allocations, this is a good starting point for most investors.

For the rest of this column, let’s use the default allocation for “Mary,” a 50-year-old investor. According to our rule of thumb, Mary should have 50% in stocks and 50% in cash and cash-like assets.

Now, before we start helping Mary manage her allocations, we must consider one more thing: We’re excluding personal residences. For most of us, our home is our largest single allocation or repository of wealth. That’s usually prudent because a house is a long-term asset that we hold through thick and thin. So, for this discussion, I will focus only on investment portfolios.

Typical asset allocation strategies fill a pie chart with each of the major asset categories like stocks, bonds, precious metals, real estate and cash. Each asset category receives a predetermined percentage of the pie.

The Secret Behind the Widening Wealth Gap

But for Intelligent Asset Allocation, I take a different approach. I begin by defining the objective of each piece of the pie, rather than focusing on the exact assets that fill each slice.

Specifically, I split the pie into three objective-defined categories:

  • Wealth Creation Assets
  • Wealth Preservation Assets
  • Wealth Insurance Assets

Wealth Creation Assets are the ones that offer big upside potential and can create and compound wealth over time; they can really “move the needle” and grow your wealth. But these assets also have the power to destroy wealth. They are two-edged swords. They are risky.

Let’s file away that thought and move on to the next category, Wealth Preservation Assets.

This category includes just one asset: cash.

Investors use the term cash to refer to a variety of cash-like securities — typically, some kind of money market fund that always trades for exactly $1 and pays a modest yield.

Money-market funds function well as cash in most environments. The 2008 crisis was one notable exception. Several money market funds “froze” clients’ cash for days or weeks… or months.

Finally, Wealth Insurance Assets are the last piece of our pie — and it contains just two assets:

  • Gold
  • Put options

These are the assets that perform well when stocks are performing poorly. That’s why they function as “insurance” against crisis-fueled bear markets, like we suffered in 2008.

Unlike a Wealth Preservation Asset like cash, Wealth Insurance Assets can be volatile. They can — and do — produce losses in some market environments.

When stocks are rising, for example, put options lose value.

Meanwhile, gold’s inverse relationship with stocks is less rigid. But over most time frames during the last five decades, the price of gold has tended to ‘zig’ higher whenever stock prices ‘zag’ lower.

A chart showing the rolling two-year returns of the S&P 500 and gold from 1972 to the present.

Now that I’ve described the three “pie pieces” of Intelligent Asset Allocation, it’s easier to see how to both fortify your portfolio against a bear market, while also encouraging growth.

Intelligent Asset Allocation is only a piece of this puzzle, but in this video, I’ll show you how you can put yourself on the winning side of America’s ever-widening wealth gap — by not just surviving… but thriving.

Click here for more.

Eric Fry

P.S. Listen, I used to wait tables at a restaurant in Malibu Beach, and now, I’ve got more than 40 1,000% winners under my belt. This is, in part, due to my understanding of the wealth gap — and in this video, I outline my most groundbreaking discovery to date. (I even give away the name and ticker symbol of one of my stock picks.) Details here.

On the date of publication, Eric Fry did not have (either directly or indirectly) any positions in the securities mentioned in this article.

Eric Fry is an award-winning stock picker with numerous “10-bagger” calls — in good markets AND bad. How? By finding potent global megatrends… before they take off. In fact, Eric has recommended 41 different 1,000%+ stock market winners in his career. Plus, he beat 650 of the world’s most famous investors (including Bill Ackman and David Einhorn) in a contest. And today he’s revealing his next potential 1,000% winner for free, right here.


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