Ep. 146 – Risk-Adjusted Portfolio – How It Works

Have you thought of having a risk-adjusted portfolio? A good risk-adjusted portfolio protects you from a significant market risk like a sudden pandemic.

There are traditional ways of adjusting a portfolio to risk, but even those don’t work sometimes. If you want to adopt a risk-adjusted portfolio, do the research, think of what works best for you, and then have a conversation with your financial advisor.

In this episode of the Secure Your Retirement podcast, we talk about a risk-adjusted portfolio and why it’s better to do it with the supply and demand method instead of asset allocation. Listen in to learn how to adjust your portfolio risk using the bond alternative.

In this episode, find out:

●     The factors that determine an individual risk-adjusted portfolio.

●     Understanding asset allocation and why the typical methods of it can be risky too.

●     Understanding the year-to-date and max drawdown returns.

●     How to do a risk-adjusted portfolio with supply and demand instead of asset allocation.

●     Safe growth – transferring of a down in the market over to the insurance company.

●     How to adjust your portfolio risk using the bond alternative.

Tweetable Quotes:

●     “As a person gets closer to and gets into retirement; risks can change.”– Radon Stancil

●     “After being a wreck, you’re the safest you could ever be.”– Radon Stancil

●     “Some are comfortable with the concept of just doing a 60/40 asset allocation, and some are not and we have to think a little bit differently.” – Murs Tariq


If you are in or nearing retirement and you want to gain clarity on what questions you should be asking, learn what the biggest retirement myths are, and identify what you can do to achieve peace of mind for your retirement, get started today by requesting our complimentary video course, Four Steps to Secure Your Retirement!

To access the course, simply visit POMWealth.net/podcast.


Radon Stancil:Welcome everyone to our Secure Your Retirement Podcast. Today, we are talking about risk. I will tell you that as a person gets closer to and gets into retirement, risk can change. And we’re talking about investment risk. And I always tell a story to people when it comes to risk and how we think about risk and I associate it with a person who has been in a wreck. And if you’ve been in a wreck before, after being in the wreck, you are the safest you could ever be. You don’t adjust the radio. You put both hands on the steering wheel. You’re super-concentrated about what’s going on in the traffic around you. And then a little bit later, you basically start adjusting the radio a little bit. You start then a little bit later, maybe driving with one hand. And the next thing you know, you’re sipping on a drink with one hand, doing your hair with another hand, and driving with your knee.  
 And the reality is the further we get from a traumatic event, sometimes the riskier we get, and that is just like the stock market, just like investments. If you take, for example, after 2008, everybody was like, super careful. I don’t want to be in the market. I hate the market. The market is not where I want to be. And now we have gone some years away and it’s kind of like, well, the market doesn’t really go that bad so now I’m ready to be super risky. But the reality is, we need to make sure that we adjust our risk based on our belief system, based on where we’re at close to retirement or not, as well as what we think we can sleep good at night with. And so that’s our discussion today, it is a risk-adjusted portfolio. So Murs, if somebody talks to you and you’re having that conversation and they say, I want a good risk-adjusted portfolio, would you say for the vast majority of people, what do you think they’re saying when they say that?  
Murs Tariq:Yeah, I think when someone says that really what the majority are set up for is what we call an asset allocation. So we’ve talked about this before, but just to give a quick recap on what asset allocation is, or maybe you’ve heard it as buying a well-diversified portfolio. Basically what you do is you buy little pieces of the market. So in broader terms, you’ve got large-cap funds, midcap funds, small-cap funds, and then you can go into sectors like technology, like pharmaceuticals, you can go into commodities, and you can also include fixed-income type investments like bonds and treasuries and all these different things out there. So when you think about risk and usually what people tend to say is, hey, here’s my age so I know I need to be a little bit more conservative.  
 I’m 70 now so I probably shouldn’t have that much in the equity side of the world. I should probably have some more bonds. And that is fine thinking, but that is what a lot of us have been taught as to how to mitigate risk in the markets. You put 60% of your money into the equity side. So all these different stocks and different growth type investments, and then you put 40% of your money into safer investments in the market, which traditionally, are just bonds. Things like the AGG things like longer-term bonds and treasuries. And so then we have this concept that everyone has heard of called a 60/40 portfolio. And the idea there is that you hold it or you buy it and you hold it and maybe it every now and then you rebalance that account. Maybe it’s quarterly that you rebalance it because maybe that large-cap position did really well and now it’s out of balance and so you want to bring that back in and that’s pretty much it and you ride the waves.  
 And so while that can work for some people, what we want to bring to, I guess, the light here is that even that could potentially have maybe too much risk for someone and for their risk appetite. Because if you think about it, let’s just look at what if you made a 60/40 out of just the S&P 500 and what would be the equivalent index is your AGG index, which is basically the bond arena in the stock market. What we know, a lot of you have experienced it and we experienced it in 2020, where the S&P fell 32% in a matter of two months, we’ve experienced it in 2008 where it fell over 50%.  
 We experienced it in 2001 where it fell over 50%. And so the question that we have to start asking ourselves is, hey, we’re in this risk adjust a well-diversified portfolio, but if I have a risk factor of essentially 60% of my money that has the potential of falling 50%, am I comfortable with that? And so that’s where we start to ask the question, well, what are some other options out there? How can we dig through this? And it’s different for every person, and some people are comfortable with that concept of just doing a 60/40 asset allocation, some are not. And so we have to think a little bit differently. So Radon, how do we accomplish that? And what do we dig through?  
Radon Stancil:Also, I just want to add a little bit to what you said, just on this idea. There’s two different things to think about when it comes to returns, there’re year-to-date returns. So somebody can say what happened in 2020? What happened in 2021? What happened in 2008? And then there are what we call max drawdowns. Now, a max drawdown means that the portfolio is going up and so it gets to a peak, and then it starts to go down. Now, when you look at the peak to the bottom, that number could be different from what I did year-to-date. Now, I will be very honest with you, I am all about looking at what happened for the year versus trying to look at my peak versus my bottom because I don’t think you can also judge from the bottom to the top if it comes back down.  
 So I am not an advocate of saying, hey, what was it from the top to the bottom? I think that’s unfair, but you have to know about that because that could affect your emotions. So if you take the S&P 500, now we would say that if you just invested in the S&P 500, that would probably be a higher risk type of investment. The maximum drawdown since 2001 to now is 56.8%. Now, for most people, you think about a million dollars and then losing nearly 570,000 of it. That is way too much risk. So then you say, let’s go to my 60/40 portfolio. Well, what’s my max drawdown? Going back to 2001 to today, the max drawdown is 36.7%. Now you got a million dollars and you lose 300 and almost $70,000 of it. Do you sleep well doing that?  
 Most people would say, no, that is not comfortable for me. I would like to pull that max straw down even further, if, and not only if, but I’d like to also make a decent rate of return. So what we talk about, and we, by the far are not saying that what our system is, is the perfect right system, and you should only do this and never do buy and hold. We do not advocate that. Here’s what we say. Some people might like to buy and hold, and then some people say, no, do you know what? It makes sense to me. And I’m more comfortable if I know somebody’s watching the account, watching the holdings, and has a plan to protect from those significant losses. Okay. So what we talk about is instead of doing a risk-adjusted portfolio by asset allocation, let’s do it with supply and demand.  
 Supply and demand is simple in the context of definition. And if things are in demand, let’s be a part of it, if though, it is not in demand, let’s not be a part of it. So what does that really mean? Go to a scenario of like 2008, that’s easy, stocks were not in demand for much of 2008, going all the way into 2009. So if stocks are not in demand, instead of just holding them and letting it all fall, let’s take action. And what that means is, and in our approach is let’s say we have a client that we could go as much as 100% into the stock market, but if things go out of demand, we could move all the way to 100% bonds and if really things got bad, we could go to 100% cash.  
 Because remember if stocks and bonds are falling, cash is king. That’s where we want to be. And then we can get back in without the significant loss. A more recent example would be March 2020. March 2020, what occurred? The pandemic hit, never lived through one of those before, and all of a sudden the market starts to crash and falls nearly 34%. And obviously, people were a little worried at that point, but we could have a good risk-adjusted portfolio and protect against a significant part of that.  
 Now we’ve talked about this before, our portfolio in that period, for our growth portfolio for our clients, we were down about 9% in that period versus the 34. Now, that’s risk-adjusted. That’s better than had I been in a 60/40 in that window. Now you could have somebody who loves 60/40 portfolios and tell you about another window. All I’m saying is, there’s another way to do risk adjustment without just saying I want to be in bonds and equities. Now here’s the other part of the bond equity world is what if bonds aren’t working? Right. And what are we seeing right now in bonds? Murs?  
Murs Tariq:Yeah. I mean, the headlines every single day is, hey, what is the FED going to do? We’ve done so much over the past couple of years, printing money, putting money into the economy, buying up all these treasuries and corporate and investment bonds and now we’ve got inflation that we’re dealing with, and all of a sudden, this idea of what the FED is basically saying is that interest rates are going to go up while what could be a long story, but a short story is basically when interest rates go up, that can affect bonds negatively. And so the outlook on bonds, in general, is not looking good. Not that they’re going to fall tremendously, but they’re not really going to provide that return that they used to provide. They were negative last year as a whole if you look at the AGG, it was negative last year.  
 If you look at where it’s at this year so far, bonds are negative. And whereas a lot of people have bonds in their mind as a very safe place to be. Well, what we want to remind you there is that there is risk in the bond market, just like there is risk in the stock market. And so sometimes we have conversations with people and they say, hey, I like this concept of the supply and demand and this risk management, but how do you do that in the bond world, and what if we don’t have a good outlook for bonds, what do you do then? I don’t just want to be in this situation where I’m either not making money on 40% of my money or 20% of my money, or I’m losing money over there because I just feel like I need bonds in the portfolio. What else can I be doing there? And so what do we tell them there, Radon?  
Radon Stancil:So there are other tools. We talk about bond alternatives, and we say this from this context, Murs and I have done many podcasts where we’ve talked about fixed annuities. We talk about it with our clients if they ask questions about it. And we do believe in the concept, but we are not such a place that says everybody needs to have it, no matter what and we sell the idea. We simply explain it, and we talk to people. There are a couple of different reasons why to do an annuity. One of those is safe growth. What that means is, it’s an alternative to doing a bond, and we kind of transfer the risk of the downside of the bond world to the insurance company. Just like you would in any other transfer to the insurance company. We transfer our health costs to an insurance company.  
 We transfer the risk of losing our house by burning down to an insurance company. We can also transfer the risk of a down in the bond market or down in whatever it might be over to the insurance company. Now, what’s our give and take? Our give and take in that scenario is that my return is going to be more conservative, but still decent, still decent. So my return’s a little bit more conservative. That’s okay. I don’t have a downside. Well, what else do I have to know about? Well, I’ve also got liquidity issues. When I say issues, understand it. Most of the insurance companies allow you to take 10% of your balance out every year without a penalty or surrender charge, and so I do have liquidity, and for most of our clients, if we have a mix of money that’s in the market that we’re growing, as well as money over in the bond alternative, it works out fine because let’s say a person… Now. Let’s go to that 60/40 scenario, 60% is in the market, 40% is over in a bond alternative, fixed annuity.  
 And let’s say that’s where the assets are. Well, of that 40%, they’ve got 10% access, but of that 60%, we’re pretty liquid. A person could call us up and in a few days, we could have the money in their bank account. So for most of our clients that fits them fine, and they are able to adjust that risk by using that bond alternative. So again, we try to say there’s not just one way to do it. We believe there’re multiple ways to do it. We are very, very super conscious about saying, look, let’s protect from sign significant loss. And the folks that get that and want to learn more about that, we’ve got tools for you. We’ve written a book about this and have a whole entire chapter on this.  
 We’ve done multiple podcasts on this. And every single week we give an update to our clients and to those that are interested in us and exactly how things are going in that arena. So we invite you that if you have listened to this, and it sounds kind of interesting or I’d like more information, or you think I’d like to understand it a little bit better, just go to the website, pomwealth.net, top right-hand corner. You can just click on the 15-minute complimentary phone conversation, have a conversation with Murs or myself, but anything else there to include Murs on that?  
Murs Tariq:No, I think that’s good. I think the moral of the story here is that there are multiple ways to have a risk-adjusted portfolio. So do the research, think about what works best for you, and then have that conversation with whoever can help you with that. So that’s all I’ve got.