A Look at the Model Shadow Stock Portfolio’s True Risk
The stock market has come roaring back and now is at pre-recession levels. However, the economy does not appear to be back—particularly employment.
It is hoped that the second-worst market drop in a century is over and we will have some normal markets for awhile. So far this year, the Model Shadow Stock Portfolio is up 10.6%, compared to 6.6% for the S&P 500 index as measured by the Vanguard 500 Index fund (VFINX). The results for 2012 and other periods can be seen in Figure 1 and Table 3.
Comparing Risk Levels
While the Model Shadow Stock Portfolio was hit harder percentage-wise during the downturn than the overall market (as can be seen in the cumulative return chart in Figure 1), it took much less time to recover. Looking at the yellow line, which is the Vanguard 500 Index fund, and the purple line, which is the Model Shadow Stock Portfolio, what would you say about the comparative risk? I am referring to risk in the real sense of the word—the chance of loss. The Vanguard 500 Index fund fell less than the Model Shadow Stock Portfolio from its high, but has taken almost twice as long to recover. It has the lowest standard deviation, but does it have the lowest risk?
A major factor determining true risk lies in the processes of the investor. If an investor was long term and disciplined with a horizon of four to six years, there was little risk with any of the portfolios. If, on the other hand, the investor panicked and sold near the bottom, or had invested money needed in less than four years, then there was probably a loss. The best time to examine your risk tolerance and your asset allocation is just after a market crash. If you net sold during the downturn, then you need to adjust your exposure in the future.
Despite the domestic and foreign problems that are out there, I continue to feel the market wants to go up. My long-term philosophy, however, has been to be mostly neutral with long-term allocations. I have been willing to be more aggressive when the market was below its long-term highs because it has always come back. I get more conservative when the market is setting new highs even though what is going up tends to keep going up—until, of course, it doesn’t.
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