An investment’s risk is usually defined as its standard deviation. The financial press and investment marketers cannot be faulted for defining risk as standard deviation. Reducing the concept to a single statistic makes it easy to understand. However, standard deviation expresses only one aspect of investment risk. It totally misses the more important human component: how you will behave in reaction to your wealth disintegrating in a crisis like the 2008 global financial meltdown. That’s what really matters in managing wealth strategically.
Standard deviation measures the risk of price fluctuations in stocks, bonds, cash, and other investments. More important than price volatility is your reaction. Investors obviously all love upside volatility, but extreme negative volatility is intolerable to some people.
Statistics are useful but only go so far in managing a portfolio. The financial services industry, media and internet have a bias toward simplifying investing. They speak in an authoritative voice as though anyone can allocate their investments correctly to meet their retirement and estate planning goals.
But there is no substitute for a relationship with a professional who gets to know you, someone who can help you discover how big a loss you can tolerate before panicking by selling and abandoning your strategic plan.
At a time when artificial intelligence is about to expand human knowledge exponentially, nothing compares to investment advice from a professional who knows you, who has assessed your risk personality characteristics, and has experience in applying the requisite technical knowledge.
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This article was written by a professional financial journalist for Advisor Products and is not intended as legal or investment advice.