IlliniDave wrote: ↑Tue Sep 17, 2019 7:35 am
As just a guy who invests I don't think of risk as a monolith. In the broadest sense it's just a category heading for what can go wrong. I've always sort of bristled against the standard definition of investment risk (std dev of investment return), but I guess the MPT folks needed something for one of the axes. Some people (led by Bernstein, I believe, but maybe it was Pfau) call risk defined by measures of moderate-term volatility "shallow" risk. For someone with a longer time frame (increasingly not me) this risk is mainly a risk because it can, and does, often trigger counterproductive investor behavior. Deep risks are the sorts of things that can wipe you out. Milder ones might be sustained surges of inflation, stronger might be long term economic collapse. For many there's a window where shallow and deep risk co-mingle in the form of sequence of return risk.
I don't concern myself too much with the shallow risks. Knowing I'm at the juncture I'm most sensitive to them I've just incrementally shifted a larger share of my at-risk money into assets I reasonably expect to be less volatile. I expect to lose potential return based on that approach, but it could potentially a better jumping off point by blunting downside potential.
When it comes to deep risk I don't really have enough $$ to simultaneously guard against much when compared to all the deep risk scenarios that could be posited. So being unable to control it (i.e., control how the event/aftermath affect me), I don't let myself worry about it.
Good post. I first learned of those risk concepts (shallow and deep) from Bernstein. Shallow risk is typically mitigated against via having some bonds or cash and assuming that you don't panic in this situation (this may be easier said than done). These asset classes though aren't good in mitigating against the most likely deep risk which is inflation. Cash and Bonds are going to slowly lose value in relation to inflation. Equities though are the asset class to mitigate against this risk.
I think Bernstein has 4 categories of deep risk:-
1. Inflation - equities mitigate against this problem.
2. Devastation - war or something like that. I don't know how easy this is to mitigate against. I think the cost of for instance having a safe and diamonds isn't worth the cost of mitigating this risk.
3. Confiscation - this is similar to devastation but more about governments taking all your assets. This is another risk that I personally won't manage.
4. Deflation - cash is really helpful here. The likelihood of this happening is really low so again I don't intend to mitigate against this risk however a broadly diversified world equity index may help and this is a financial asset that works for point 1 as well.
One point I'd make about all of this is that a diversified world index tracker is a great way to manage your risk. I cannot think of a better single asset class than this. When you add in a simple bond fund you are doing really really well. You are going to have a portfolio that will be freaken awesome and out perform the vast majority of investors out there.
This guy provides in my opinion the best advice on how to invest for the average person:-
https://kroijer.com/. Note the average person doesn't mean that a smart person will beat the average person. That isn't how investing works. The smart person who uses the average person approach will beat the vast majority of smart people who think they can beat the average approach.
I don't think that you can really beat a simple portfolio (international equity fund and domestic bond fund) via tweaking your asset allocation from an expected future returns perspective. No one knows what markets will out perform in the future so of course some asset allocation or some form of active investing will beat this approach. The problem is we don't know today which approach will beat the simple approach.
You can do other things to improve your chance of success such as obtaining a pension or saving more money but that sort of defeats the purpose.